The Euro Rises to the 3-Year High Following Draghi’s Forward Guidance. The ECB’s Monetary Policy Committee (MPC) concluded their January meeting today. As expected, the committee left rates unchanged. The base interest rates remained at 0% while the deposit facility rates were left at –0.40%.
As mentioned yesterday, this month’s meeting came at an interesting period for the bank. Recently, it was revealed that Draghi, who chairs the committee, belongs to a secretive group of bankers known as the Group of Thirty. This is a secret society for the most powerful banks in the world, which is headquartered in Washington. The chairperson of JP Morgan heads the organization.
In a recommendation, the ombudsman of the European Union requested Draghi to leave the society.
Secondly, the meeting came at a period when the Euro’s strength has continued which has raised concerns among some members in the ECB. A few weeks ago, the ECB Vice President went on record to say that the Euro was overvalued.
On paper, a strong currency tends to reduce or drag the rate of inflation because it makes export more expensive and imports a bit cheaper. Now, the ECB is struggling to bring the core inflation to the target of 2%. As a result, a strong Euro coupled with high-energy prices will not help the ECB on their inflation targets. Yesterday, the Bull Run in the oil markets continued with the WTI and Brent reaching the highest level since 2014.
Third, there have been concerns among investors and central bank watchers about the stimulus package. In a letter sent to the European Parliament yesterday, Draghi made it clear that the bank will continue to spend 30 billion euros every month on asset purchases until September. As you recall, during the meeting, the bank raised the GDP forecast for 2018 from 1.8% to 2.3%.
Fourth, the meeting came at a time when more hawkish officials are calling for higher interest rates. Recently, representatives from Germany and France have cautioned the ECB about the low for longer policies. They argue that continuing a process of low interest rates will lead to increased complacency among investors, which may create a bubble, which may pop when rates start to go up.
A key concern among many in the financial community is about the negative interest rates for banks. For months, banks have been complaining about these policies because they are forced to pay an interest rate, instead of being paid.
The Euro was experienced no major movements against the dollar after the release of the data. It however continued its upward movements above the 3-year high during Draghi’s statement. In his statement, he said that the recent economic data pointed to solid and broad growth with inflation likely to go up in the medium-term. Investors read this forward guidance as an indicator that the ECB will start the normalizing process soon.
By raising interest rates, investors holding Euro expect to start generating returns, albeit on a gradual scope. The central banks raise interest rates during such periods to contain inflation.
At the moment, the EUR/USD is trading at 1.2511 which is 83 basis points gain while the DAX and STOXX are down 33 basis points and 18 basis points respectively.
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