Could Draghi Meet The Market Expectations?

Yesterday during the meeting Draghi again confirmed a robust pace of economic expansion and continued strong and broad-based growth momentum. This is something that we witness during last couple of meeting, but what we also see is the fact of existing downside risks. Last account of the Governing Council meeting was taken very hawkish that followed by an aggressive reaction from the market. The opposite was expected this time, but looks like Draghi cannot assure the market. The increased market expectations of early hike and the comments by Mnuchin has led to euro strength and poses risk to the inflation expectation. There are still several questions that remain open. When is the end of QE? When will be the first rate hike? Is the inflation self-supported or it mainly depends on the stimulus provided by the ECB.

Draghi noted there are three options. First is the sudden stop, second is the extension and the third one is the gradual tapering. They still need to discuss which option to choose, but he also said, “As far as I was concerned, we’d never stop the programme abruptly.” Although he let the market know that he sees very few chances at all that interest rates could be raised this year, yields rose by around 5 bps, as it seems like market understood expression “few chances” as a possibility hinted by Draghi.

He also mentioned that recovery in economy and accelerated inflation is the result of the stimulus provided by the ECB and even though all this should have been achieved without monetary policy support as Draghi says “they are not there yet.” To sum-up, there is still uncertainty whether we will see end of QE in September or something else, Draghi says “very few chances” of a hike this year and recovery still depends on stimulus. BUT looks like market does not buy that. Perhaps Draghi still need to search for right words.

Source: Chart is created using Bloomberg terminal

Might he found an ally to prevent unwanted inflationary pressure from the currency side? Couple of days ago in an interview US Treasury Secretary Steven Mnuchin said that he welcomes “weak dollar” and yesterday President Donald Trump contradicted him stating the opposite. Euro that rose above 1.253 after the Draghi speech fell down below 1.24 after the Trump speech. Seems like someone is playing “catch me if you can”. First of all I am not a believer of a possible currency war. Second, I do believe the ECB need to improve the communication. Draghi said: “Several members of the Governing Council were surprised by the reading of the account- by the effect that the reading of the account had on the market and they asked to clarify this.” I do not know about the members but the market definitely did not get the clarification.

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