EUR: More nervousness ahead of ECB policy meeting – MUFG

Lee Hardman, Currency Analyst at MUFG, explains that the market’s reduced perception of European political risk is one potential reason why the euro is holding up relatively well so far against the US dollar in the face of higher US yields.

Key Quotes

“The latest opinion polls showing increasing public support for independent Macron in France and falling support for the Freedom Party in the Netherlands are encouraging the market to scale back the European political risk premium which is offering some support for the euro. It has helped to ease downward pressure on German government bond yields.”

“The euro has also likely derived some support from hawkish comments yesterday from Bundesbank President Weidmann who stated that “inflation this year is likely to be well in excess of the figure projected to date”. He believes that the projection for inflation in Germany could be raised by half a percentage point and “this might also be the case for the euro area as whole”. The release of the latest German inflation report revealed that headline inflation accelerated to 2.2% in February which was the highest rate since August 2012.”

“The comments will make the market more nervous ahead of next week’s ECB policy meeting. A material upgrade to the ECB’s outlook for inflation of 1.3% in 2017 could help to provide some support the euro. However, we doubt that the ECB will be willing to signal a shift away from their aggressive easing stance at the current juncture thereby limiting its impact on the euro. President Draghi will likely reiterate that there has been little evidence so far of second round effects from higher headline inflation and that core inflation still remains subdued.”