Divergence in the Fed and the ECB monetary policies suggests EUR/USD may renew its 10-year lows

No mission is impossible for Mario Draghi. Central banks reasonably worry that any hints at monetary normalization will result in their national currencies strengthening, which, in theory, should weaken the export and slow down GDP growth. 1.9% euro crash, the worst since the referendum on the UK membership in the EU, in response to the decision on QE end in December, became the first evidence of the regulators’ undue fears. I should note that super Mario hardly ever holds a bad press conference. They, as a rule, get euro to grow weaker.

Euro response to ECB meetings

Source: Bloomberg

One matter is when the derivative market expects the interest rate hike from the current 0.4%, another matter is when the central bank declares it. By that time, the Fed is may increase the federal funds rate up to 3 – 3.25%, and the divergence in monetary policies will become a strong reason to move the capital from the Old World to the New one. Another reason for EUR/USD drop was the difference in Jerome Powell’s and Mario Draghi’s speeches. The first was shining with optimism about the US economy, the second one suggested GDP steady growth, but emphasized the growing uncertainty. Moreover, the ECB, unlike the Federal Reserve, decrease the expected GDP growth in 2018 to 2.1%, from 2.4%.

According to Longview Economics, the Eurozone economy’s slowdown in the first quarter results from not only bad weather, a flu epidemic, strikes or strong euro, but also from quitting the monetary stimulus. Super Mario has noted that it is still necessary for the region’s economy, and the ECB will extend QE through December, 2018, though it will reduce the monthly buyout volume to €15 bn, from €30 bn. Investors expected the Governing Council to suggest quitting ultra-soft monetary policy, but, in fact, they got the program extension and retaining the policy of negative interest rates. QE will be ended only provided that the real statistics corresponds to the ECB projections for inflation. By the way, the central bank raised the expected HCPI in 2018 up to 1.7%, from 1.4%.

Dynamics of the ECB balance sheet

Source: Wall Street Journal

What’s next? If the US GDP meets the expectations of Atlanta Fed and is 4.6% up on a quarterly basis in the second quarter, and the Eurozone economy doesn’t restore, then EUR/USD is likely to continue falling down to towards 1.14 and 1.1295. According to ABN Amro, the pair will be at 1.1 in September; and Deutsche Bank, just like me, thinks over lower borders of the assumed trading range between 1.15-1.2. Euro can be saved only by the peak of the USA economy cycle. IMF, following other authoritative establishments, expects it this year.

Forecasts for US GDP

Source: Wall Street Journal

If they are right, EUR/USD will lure buyers back already in the second half of 2018. Meanwhile, bears are totally ruling over the market.

 
 


 


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Euro: Pardon Impossible, to Execute

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