Marius Paun | London, UK | Senior dealer | Thursday, 10th September 2020
Despite an expected low inflation rate for the eurozone last month, the weakest reading since 2001, the European Central Bank kept its benchmark interest rate unchanged at its meeting on Thursday.
Recently the euro has strengthened against the US dollar making the imports cheaper and conversely hurting exporters, but that did not convince the policymakers to change the coronavirus stimulus program. The Pandemic Emergency Purchase Programme was left at a total of 1.35 trillion euros.
As a reminder, the ECB increased its coronavirus stimulus from 750 billion euros to 1.35 trillion euros in June this year vowing that it will remain in place until June 2021. The central bank added the stimulus is regarded as a measure of easing the monetary policy meant to offset the downward pressure on inflation due to Covid-19.
They acknowledged the outlook remains ‘highly uncertain as this is a crisis like no other’. Its forecast for inflation was 0.3% by the end of the year picking up to 0.8% next year and to 1.3% in 2022. It is anticipated that inflation will remain under the bank’s target for years to come. The gross domestic product is predicted to shrink by 8% in 2020 followed by a rebound to just over 5% next year. The recovery is seen to be slower initially.
On the other side of the Atlantic, the US Federal Reserve shifted its stance on inflation in an unprecedented move. According to Reuters, the impact will be a ‘drag on the US dollar for years raising questions on the role of central banking’. As an immediate effect, the dollar weakness will hurt exporters in Europe making it more difficult for exporting economies like Germany and France to recover from one of the deepest recessions in history. They all known trade war between these nations and the United States is already taking its toll on the exports.
The European Central Bank has reiterated, during the meeting, that does not target the exchange rate. However, the greenback weakened by more than 10% in the last few months and ECB chief economist Phillip Lane admitted ‘the exchange rate mattered even if the ECB is not targeting it’.
Some analysts forecast the euro strength could shave off 0.2%-0.4% from euro area growth. Unofficially, there are plenty of voices saying that faced with that harsh reality, the ECB should mirror the Fed’s ‘permanently’ lower rates and adopt a more flexible monetary policy itself.
That shift in the Fed’s mandate could have wider implications and at some point be seen as a precedent for other central banks to revisit their own roles. Christine Lagarde, in charge of the ECB, has already expressed strong views regarding the climate change risks, ‘they are so big the bank could not ignore them’.
If re-examining central banks roles become the norm, political attacks could undoubtedly follow, threatening bankers’ independence. The ECB said that it is required to support the economic policies of the European Union but that would be a step too far from its current mandate, to focus on inflation only.
In reaction to the meeting, the EURUSD moved higher to 1.1917 at the time of writing, crossing above the 6 day and 21-day moving averages in the process.
The sideways trend since mid-June largely within 1.17-1.20 range is still in place as the chart indicates. At the same time, the short-term moving averages (6) has now crossed below the long-term one (21).
On the upside, we can see the first line of resistance around 1.1882 marks followed by 1.1920. It tried to break the latter today but so far it failed. If eventually, the bulls do succeed at the aforementioned levels, they will set their eyes on retesting 1.2011 the high of September 1st. On the downside, sellers need to breach rather strong support around 1.1775 followed by 1.17. If they manage to do that the short-term trend will shift to bearish.