European Central Bank settled on a monetary policy more in line with the economic circumstances

By: Miguel A. Rodriguez

15:25, 25 July 2022

Although they had anticipated a rise of 25 bps in the previous meeting, they decided on 50 bps

Lagarde explained that the decision was unanimous given the inflation evolution in Europe, which has reached extremely high levels. This seems like a good decision and, to a certain extent, has been interpreted by the market.

 

But what has not yet been very clear are two aspects:

 

First, if they are going to continue with more aggressive rises in the next meetings, something that Lagarde has not been able to clarify. She only said that it will depend on the following economic data. But obviously, Europe’s inflation will not subside in the coming months, especially if the Euro remains at levels as low as it is now. The next ECB meeting is in September. Therefore, if nothing changes, another rise in interest rates of the same magnitude will be likely.

 

Second, the program to protect peripheral bonds, most notably Italy, has been loosely defined. The action of the European Central Bank, buying bonds from the affected country in the event of fragmentation, will depend on the country's macroeconomic conditions and the degree of compliance with European fiscal regulations. The latter is difficult to quantify and could even lead one to think that a country like Italy might not be eligible under these conditions.

 

In summary, the communication has not been the best, as has happened on previous occasions, and because of this, the EUR/USD price initially rose to 1.0280 due to the decision to raise interest rates by 50 bps. However, the pair returned to the starting point, waiting for the market to digest all this information.

 

An important reference for how the market interprets the ECB's decision is the evolution of the treasury bonds of countries like Italy. And initially, everything indicates that there are some uncertainties. The yield on this bond rose to 3.74% before falling below 3.60% and back to the high of the day.

 

In summary, it can be said that the decision has been correct, only in the absence of greater clarity on how the TPI (Transmission of Protection Instrument) program will be carried out. Therefore, pending further developments, the EUR/USD bias may be slightly bullish in the coming days.

 

And on the other side of the Atlantic, American stock markets remain in a good mood. Earnings season is excellent; yesterday, companies like Philips Morris or AT&T beat all forecasts for second-quarter earnings.

 

The Nasdaq index is getting closer to the appropriate level of 12,947, above which the bear market that has prevailed for more than half a year would end.

 

Sources: Bloomberg, Reuters

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