ECB expected to hold policy steady but hint at December extension

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20 October 2016

Matthew Ryan

Senior Market Analyst at Ebury. Providing expert currency analysis so small and mid-sized businesses can effectively navigate international markets.

Attention in the currency market today will undoubtedly be on this afternoon’s European Central Bank meeting, with the Governing Council set to announce its monetary policy decision following its two day meeting.

A
t the European Central Bank’s (ECB) latest monetary policy meeting in September, the Governing Council surprised the market by failing to announce an extension in its large scale asset purchasing programme. However, we think that an extension in the central bank’s QE programme is almost certain to be announced before the end of the year, and expect to see a clear hint on Thursday that this could take place at the December meeting.

Investors will also be watching closely for Mario Draghi’s response regarding a possible reduction in the pace of monthly purchases after the existing March 2017 end date. We think Draghi will forcefully dismiss any talk of a tapering of asset purchases and expect a fairly bearish tone given the relatively poor economic news out of the Euro-area and political uncertainty currently plaguing much of Europe. This would likely prove a Euro negative this afternoon.

Earlier on Wednesday, the Pound continued its recovery for the week, rallying back above the 1.23 level against the US Dollar after a relatively solid labour report. However, economic data continues to play second fiddle to Brexit news.

Britain’s Finance Minister Phillip Hammond gave the Pound some traction yesterday by claiming that measures to reduce net migration had to be designed in a way to protect the economy. The Pound has reversed much of its recent depreciation on hopes that parliament may be able to avoid a “hard” Brexit from the European Union following June’s referendum.

A surge in oil prices also sent the Canadian Dollar to a four week high, overshadowing the Bank of Canada’s decision to leave interest rates unchanged at 0.5%.

Major currencies in detail:

GBP

The Pound rose by 0.2% on Wednesday, buoyed by comments from Philip Hammond.

Sterling paid little attention to yesterday’s labour report which came in broadly in line with expectations. Britain’s labour market appeared to remain resilient in August despite the Brexit vote, with unemployment remaining unchanged at 4.9%, its lowest level since September 2005. Wage growth also remained impressive and even accelerated excluding bonuses from 2.2% to 2.3%.

However, the UK’s labour market is likely to suffer from a gradual adverse impact following the referendum, and we expect unemployment to beginning ticking upwards again towards the end of the year.

Retail sales data for September this morning is expected to show a slight deceleration on August’s numbers. Political news continues to hold much greater sway as far as the Pound is concerned.

EUR

The common currency weakened by 0.3% against the Dollar ahead of this afternoon’s ECB meeting.

Trading in Europe was relatively calm on Wednesday ahead of today’s central bank announcement, with no significant news of note. The slump in the Euro was largely driven by expectations for the tone of Draghi’s press conference.

Economic news was also relatively light. Construction output increased in the year to August, although only very modestly. Production increased by 0.9% on a year previous despite a 0.9% decline for the month.

The ECB will dominate trading today. The central bank releases its interest rate announcement at 12:30pm BST, followed by Mario Draghi’s press conference at 13:30pm. As always Draghi’s comments will be critical to the Euro today.

USD

The Dollar had a relatively quiet session on Wednesday, buoyed by expectations that Mario Draghi could hint at an extension to the ECB’s QE programme tomorrow. The US Dollar index rose by 0.2%.

Housing data out of the US yesterday was fairly mixed. Building permits surged in September to an annual rate of 1.225 million. However, housing starts fell for the second straight month, plunging by 9% to 1.047 million, the lowest level since March 2015. This suggests that residential construction is likely to remain a drag on overall GDP in the US in the third quarter of the year.

Economic news out of the US today will likely take a back seat given the ECB announcement. Initial jobless claims are expected to remain around their four decade low this afternoon.

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