Thursday's meeting of the European Central Bank will answer the question of whether a 25 bps rate hike in July is a foregone conclusion, or whether there is room for a 50 bps rate hike, which is what the market seems to be increasingly expecting.
It is unlikely that the Governing Council will surprise with a rate hike already on Thursday. Should such a surprise decision occur, we could see a strong reaction of the euro exchange rate. In a more likely scenario, the market may focus today on new projections for the 2024 inflation data, any indication that the ECB may raise interest rates by more than 25bp in July and September, as signaled by President Christine Lagarde and Philip Lane, the central bank's chief economist.
Market expectations for a rate hike this week are close to zero, while 25bp hikes in July and September are fully priced in, interest rate market data showed. However, markets are pricing in a total of 130bp of tightening by the end of the year, which would mean a 50bp hike at one of the four remaining meetings, other than the one today. If Governor Christine Lagarde limits herself to reiterating her previously outlined plans to raise rates by 25bp in July and September, the market may be tempted to price in tightening later in the year and into 2023.
While a hawkish surprise cannot be ruled out at today's meeting, it appears that President Lagarde will stick with her recently outlined plan for 25bp rate hikes in July and September, ultimately increasing the risk of a slightly dovish valuation across the expectations curve. This, in turn, for EUR/USD could mean that the balance of risks appears slightly tilted downwards. A return to the 1.0500 level in the near term, under such a scenario, would be more likely. In contrast, aggressive monetary tightening could push the exchange rate towards 1.1000.
Daniel Kostecki, Director of the Polish branch of Conotoxia Ltd. (Forex service)
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