Euro falls as ECB steps up dovish rethoric

Tom Tong07/Απρ/2014Currency Updates

The week started out on a quiet note, with G10 currencies trading mostly within very tight ranges; euro, sterling and the dollar all moved within a +/- 0.3% band of each other, waiting for the big events: the European Central Bank meeting on Thursday, and the US payroll report on Friday. The former, in particular, did not disappoint. Although euro rates were left unchanged, Draghi made it clear that the repeated downward surprises in inflation are finally spooking the Council, and suggested that the ECB stood ready to act, first by cutting rates again, and then by purchasing assets in the open market. The euro immediately fell by 0.6%, dragging with it all other European currencies, and it drifted further downwards on Friday after a solid US payroll report mostly laid to rest concerns about the winter slowdown in the US


Macroeconomic news turned modestly softer last week in the UK, but key indices remain at levels consistent with GDP growth in the region of 3% for the first quarter. Both the manufacturing and the services PMI pulled back somewhat, but the levels (55.3 and 57.6) remain quite high and consistent with even faster growth than 3%. More signs of moderation emerged from the housing market, as mortgage approvals fell significantly. The Bank of England may well be pleased to see this particular sector slow down, however. Overall, last week’s data out of the UK did not change the economic or rate picture significantly, and sterling traded more or less in line with the euro, ending the week lower after Draghi’s dovish comments on Thursday.


The ECB appears to be finally waking up to the dangers of deflation in the Eurozone. After the new downside surprise in March inflation, the ECB stood pat on rates but surprised the markets with unusually dovish rhetoric. The opening statement detailed that further monetary easing would be forthcoming, not only if inflation kept dropping, but even if it remained at low levels for «too prolonged a period». In the post-meeting press conference, President Draghi went further and announced that the council had a «rich and ample» discussion about a range of tools, including both full allotment of credit to banks and, crucially, quantitative easing. Further, the council was «unanimous» (a rare development indeed) about deploying these tools unless inflation picks up in line with ECB predictions. Overall, the turnaround in ECB rhetoric is as remarkable as it is welcome. We now expect the ECB to begin implementing these tools by cutting rates further at its May meeting. The divergent directions of monetary policy across the Atlantic will provide significant headwinds to the common currencies, and we reaffirm our bearish forecasts for the euro.


Like every first week of the month, investors were focused on the all-important March payroll report. They got a solid print of net 192,000 jobs created on the month, as well as a positive 37,000 revision to the previous two months data. Even more encouraging was the continued rise of labour force participation rate. This has been flagged a one of the key concerns of Federal Reserve officials, and the rebound since the multi-decade lows of late 2013 must be reassuring. This strong report supports our view that the winter slowdown in the US had much more to do with unusually severe weather than with a cyclical slowdown, and we expect the Federal Reserve to continue reducing asset purchases by $10 billion a month in every meeting.


Written by Tom Tong

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