Yesterday’s European Central Bank (ECB) decision took markets by surprise. The outcome wasn’t what surprised markets – with the ECB leaving interest rates unchanged – but the press conference that followed.
Record-low core inflation led many inflation-watchers in the Euro area to revise future inflation even lower. From 0.4%, the current level, to zero, it is a small step away. Hence, the expectations were that the ECB would send a dovish tone to the markets.
The ECB sounded hawkish, from the start of the press conference until the end of it. For those old enough to remember the days when Jean Claude Trichet was at the helm of the ECB, it seemed like a déjà vu – ECB talking hawkish when all the available data suggests the opposite.
What Did the ECB Do?
As usual, the press conference started with President Lagarde reading the Governing Council’s (GC) statement. Right from the start, she mentioned that the Euro area had seen a strong rebound in activity in the past six months.
This was the first thing to strike the markets as odd – as such, the Euro jumped across the board, with the EURUSD going from 1.1830 to 1.19 in a blink of an eye. When you want to signal easy monetary conditions, as the ECB seemed to have wanted, you do not start with an upbeat tone about the last economic conditions. When a central bank communicates that it stands ready to deliver additional monetary support (i.e., more easing), you do not start the press conference with a strong rebound message.
In the end, this was the message the ECB sent – it stands ready for more easing. But it delivered it in an amateurish way.
When asked about inflation, Christine Lagarde’s answer was that the decline and the path follow the ECB’s projection. In other words, it was expected. That was the full blow to Euro bears as the EURUSD printed above 1.19. Inflation strategists across Europe were taken by surprise by the recent developments and had a bleak view about future prospects. Yet, the ECB is OK with inflation so close to the zero level.
On the easing side, the central bank did mention that the ECB is closely watching the exchange rate – something it did not mention in a statement for more than two years now. Also, the PEPP program, the pandemic emergency quantitative easing program, is not ceiled.
However, the damage was already done. It is not that the ECB intended to deliver a hawkish tone. It is just the way it chose to do it that was inappropriate.
It is just about semantics. And this time, the ECB chose the wrong words.