In terms of the EUR and “Ahead of the ECB meeting, the question was whether the ECB would opt for a larger-sized rate hike with a dovish message or for a smaller-sized rate hike with a hawkish message.” (INGTHINK)
We got as expected a smaller hike with a very hawkish message. In particular, the following phrases were surprisingly hawkish:
“Interest rates will still have to rise significantly at a steady pace to reach levels that are sufficiently restrictive to ensure a timely return of inflation to the 2% medium-term target. Keeping interest rates at restrictive levels will over time reduce inflation by dampening demand and will also guard against the risk of a persistent upward shift”.
To ram home the hawkish message ECB president Lagarde signaled that financial markets were pricing in too little tightening since the staff forecasts based on market interest rates still showed inflation above the target. She also added some had wanted to do more, some less. She was also very clear that the ECB is not pivoting, they are not wavering, they are showing determination and resilience so very hawkish!
The ECB also published the results of its latest macroeconomic projections, expecting inflation to come down to 3.4% in 2024 and 2.3% in 2025. The 2024 number was revised to the upside. At the same time, the ECB expects only a short and minor recession, forecasting eurozone growth to come in at 0.5% in 2023 and at 1.9% in 2024 which is way too optimistic in our view.
With regards to the reduction of the ECB’s bond holdings, the reinvestments of maturing bonds under the asset purchase program (APP) portfolio will decline to €15 billion per month on average until the end of the second quarter of 2023 “and its subsequent pace will be determined over time”. The ECB will have trouble running down its balance sheet and has decided on a nominal amount in the new year and then they will see how things go.
ECB Hawkish but Euro to Sell Off
The bottom line is there is very little the ECB can do to bring down actual inflation, but it can help to re-anchoring inflation expectations. The ECB wants to use interest rates as the main instrument to fight inflation which really is the only one they have – it's only one tool in the toolbox…
The problem for the ECB is inflation will stay higher for a long time as it’s a supply-side shock and the idea of only a shallow recession is wishful thinking. Also the more the ECB pushes rates up the longer and deeper the recession will be.
Eurozone won't have a shallow recession and also energy prices could well spike higher the gap is too wide - we are in colder weather now and any big move up in power prices will weigh on the euro.
If we look at eurozone PMI's we are already coming into a recession.
Is too bullish towards the euro and we expect the biog speculative long position to exit the market and trigger a major decline
Our view of the key levels of support and resistance to look out for on both the daily and monthly charts below.