Foreign Exchange News
12 May 2014

ECB Back Itself into a Corner

EUR/USD 1.3773
GBP/USD 1.6875
GBP/EUR 1.2253 (0.8161)
EUR/CHF 1.2204
GBP/CHF 1.4953
GBP/AUD 1.8010

The Euro was one of the biggest losers last week following Thursday’s ECB press conference where Mario Draghi indicated the ECB would be “comfortable” easing policy at next month’s meeting. This did little to help European stocks on Friday which ended the day lower, and thus far this morning performance remains mixed and tensions in the Ukraine continue to cause concerns. In the US stocks rallied on Friday with the Dow Jones Industrial Average trading to record highs. Overnight Chinese equities rallied on speculation the government there will look to take steps to bolster equities.

The Economic calendar is light today with nothing of note on the docket through the European session. As mentioned the EUR was one of the biggest losers last week following the ECB press conference with interest rate markets now pricing in approx a 10 bps cut in interest rates for the region. The heavy selling in EUR last week saw FX market volatility spike to an 8 day high but does leave EUR pairs open to a possible short term correction as the ECB move has been well absorbed by this stage.

The bigger picture however should see the EUR under pressure as we approach the June meeting. The ECB have really backed themselves into a corner, they appear happy to blame the lack of inflation or price growth on the high EUR rate and not their policies, and whilst the exchange rate is not a specific policy target for the ECB the broader implications on inflation and price stability mean its firmly on their radar. They have been so vocal about this issue that if they fail to act soon, especially after last weeks comments, credibility could be severely undermined.

The US session also remains quiet this afternoon with only Fed speakers to focus our attention. The USD has struggled to find any meaningful momentum despite the Fed continuing with the pace of tapering at $10bln per month. The main reason behind the weak greenback is that interest rate rise expectations remain grounded, pulled lower by a weak Q1. With that in mind this week brings us some key data points, the most notable of which is the CPI inflation reading. Considering the far stronger jobs data we have seen from the US we see risks to the upside for the inflation print due Wednesday, should we see this dollar rates are likely to be pushed higher bringing the USD higher with it.

There is nothing of note from the UK today but the pound remained firm having driven EURGBP to fresh 1 year lows on Friday and again this morning. The pound may get a further pick up tomorrow as labour data is due to show unemployment has fallen to 6.8% from 6.9%. GBPUSD has fallen back from 5.5 year highs just short of 1.7000, it still remains well supported above 1.6800 however.

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