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Jamie Jemmeson
March 11, 2022

ECB Opens The Door to Raise Rates But Several Questions Remain

Sterling Remains Under Pressure Amidst Risk Off Tone

The European Central Bank (ECB) left key interest rates unchanged, including the deposit rate at -0.5% and the refinancing rate at 0.0%, but surprised financial markets by announcing net asset purchases will likely be completed by Q3 on a conditional basis; given the circumstances, it was expected that this move may have been reversed. This statement resulted in the single currency initially strengthening before ECB President Lagarde’s press conference.

President Lagarde emphasised the importance of policy flexibility during uncertain times. The previous guidance suggested a hike shortly after the end of QE, but that has been updated to a vaguer pledge that the first rise will be made ‘some time’ after the end of asset purchases. In theory, the first-rate hike could now occur months after the end of QE. As a result, Lagarde denied that the ECB has embarked on policy normalisation and instead stressed that policy is data dependent. In contrast, both the US Federal Reserve (Fed) and the Bank of England (BoE) are expected to raise interest rates next week.

Growth forecasts were downgraded for this year and next year, whilst inflation was increased from 3.2% to 5.1% for this year up from 1.8% to 2.1% and 1.9% for the next two years. Whilst we have seen an upgrade in inflation for 2023/24, they are not massive increases and these remain close to target, which suggests the number of hikes could be limited. As a result of the slightly cautious tone from Lagarde, the single currency gave up all its gains from the move on the statement. A hike is being priced in for October.

It is a quiet day in terms of economic data leaving the currency to trade on risk sentiment.

UK Economic Activity Bounces Back

There were no significant UK data releases on Thursday with risk trends having an important impact. This morning we have had some data releases. The UK monthly GDP figures showed the economy returning to growth at the start of the year, increasing by 0.8%m/m, stronger than expected, after falling by 0.2%m/m in December. The bounce-back was led by higher services output, partly due to falling Omicron case numbers. Manufacturing and construction output also rose strongly.

It is a quiet day in terms of economic data leaving the currency to trade on risk sentiment. Next week the BoE is due to raise interest rates and the market will focus on the key rhetoric that follows.

US Dollar moves higher on Inflation Pressures   

The main economic event yesterday was the release of February’s Consumer Price Index (CPI) inflation data for February. The report highlighted the annual inflation rate accelerated to 7.9%, up from 7.5% in January and hitting a new 4-year high. The hot inflation reading saw US stock futures fall on the prospect of higher interest rates as investors swung back into a risk-off mood. With oil prices surging, expectations are increasing of a break above the 8% annual inflation rate in March.

In response, the Fed is expected to raise interest rates by 25-basis points at the March meeting, however, Fed Chair Jerome Powell has left the door open for moving more aggressively should inflation pressures persist. Meanwhile, the US Dollar remained elevated on safe-haven demand which saw the Dollar index rise above 98.00 and another failed round of talks between Russia and Ukraine over a ceasefire.

Looking ahead to today, it’s a relatively quiet economic calendar as investors will review the University of Michigan preliminary Consumer Sentiment Index for March for direction.

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