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Market Insights

The ECB preview Oct 2022 - is the ECB dreaming or...?

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Risky week for the Euro

The Skilling EUR / USD CFD product allows traders to speculate on European Central Bank (ECB) events

Upcoming Event - Thursday, October 27, 2022

  • European Central Bank (ECB) Interest Rate Decision
  • Governing Council of the European Central Bank (ECB): Monetary Policy Meeting in Frankfurt Germany

Key points for the upcoming ECB meeting:

  1. The ECB is expected to pump up the euro area interest rate another 0.75% (75 basis points)
  2. This move will bring Euro area interest rates to 2%
  3. Euro area inflation data last month printed 9.9%, just shy of 10%
  4. The ECB’s mission is price stability, and by hiking rates during the current economic cycle, the ECB hopes to restore price stability

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Headline inflation is expected to decline from an average of 8.1% in 2022 to 5.5% in 2023 and 2.3% in 2024 according to the ECB.

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Is the ECB dreaming or do they know more than what markets are pricing in?

  • The ECB expects a decline in energy-related inflation throughout 2023 and 2024, assuming that oil and gas prices fall
  • The ECB also expects food inflation to moderate

What about employee compensation and the high inflation dilemma?

  • The ECB is forecasting that compensation for employees will grow by 4% in 2022, and 4.8% in 2023 before falling back to 4% in 2024
  • The growth in unit labour cost is expected to significantly contribute to 2023 inflation but not so much in 2024

In a perfect world, wage growth and inflation would be in balance, but then again, would that be a perfect world for traders and the financial markets?

For the moment the ECB is expecting to see an increase in wage growth between 2022 and 2023, plus they see a robust labour market across the EU and increases in minimum wages in most EU countries. Maybe not perfect, but not such a bad outlook in any event. Just don’t forget to ask your boss for that raise.

What is quantitative tightening and what is the risk for the ECB if they get it wrong

QT (Quantitative Tightening) is also known as “balance sheet normalization” which happens when a central bank applies measures that decrease the “money supply” in the economy. During periods of high inflation a central bank can use various tools, including raising interest rates as a method to take “excess liquidity” out of the economy in hopes that by having less money in the system prices will start to normalize.

QT is when a central bank allows banks to deposit “assets” such as bonds in return for euros at ultra-low rates which these banks can then loan out to their banking customers. This move helps to stimulate economies by adding “liquidity” into the system. This side effect is the potential for higher inflation.

What happened in 2014?

  • The ECB started an asset purchase program with the aim to increase the money supply in the EU as a tool to stimulate economic growth. It worked, as EU unemployment decreased and the EU economy managed to grow.

Now that higher inflation is a problem, hiking rates alone might not be enough to achieve the price stability the ECB is seeking.

  • On June 9th, 2022 the ECB governing council decided to discontinue new asset purchases

The big risk for the Euro

ECB president Mrs. Chistine Lagarde has previously indicated that QT may begin again once “policy rates normalized”. While there is no official “normal rate” or neutral rate, some ECB policymakers have alluded to the 2% mark, which just happens to be the rate level expected for Thursday, October 27, 2022

EURUSD - Upper end of the bear market channel to be pierced

  • Key resistance spotted near 0.9901
  • A clear break above the upper channel (see above EUR / USD chart) could signal a channel price upside breakout and perhaps the start of a strong bullish reversal
  • However, if price fails to make a clear break outside the downward price channel, the risk for price to remain within the channel would then place price at risk of moving still further lower towards the 0.9360 lower support projection

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Bottom line: Nothing could be off the table, so the ECB might make some kind of QT announcement this week which could imply that the ECB may be looking to slow down hiking interest rates around the 2% mark.

Even though inflation remains at unacceptable high levels, and with additional QT such as reducing the asset purchase program, this may help take out some of the excess money from the system without hurting those who have borrowed at low rates during the previous years.

The October ECB monetary policy meeting is a dice roll that may or may not trip up euro FX traders. Good luck and trade safe.

Not investment advice. Past performance does not guarantee or predict future performance.

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