ECB Preview: Set for 50 bps rate hike, Lagarde holds the key

Amidst the US Silicon Valley Bank (SVB) fallout and elevated inflation levels in the Eurozone, the European Central Bank (ECB) remains on track to deliver another 50 basis points (bps) rate hike this Thursday.

The ECB will announce the interest rate decision at 13:15 GMT, which will be followed by President Christine Lagarde’s press conference at 13:45 GMT.

ECB to stay the course but for how long? 

The ECB monetary policy announcements come at a time when markets are focussed on the United States banking sector crisis, although a sense of calm seems to be settling into the market, as investors are turning their attention back toward the upcoming central banks’ rate hike decisions.

The swift closure of Silicon Valley Bank on Friday, followed by Signature Bank days later, forced US regulators to immediately pledge support for other lenders and depositors. The banking stress rattled investors’ confidence and raised concerns over the global tightening path.

In light of the US banking stress, Eurozone money markets quickly priced in a larger probability of a 25 bps rate hike on Thursday rather than the 50 bps increment. Traders reduced their bets on the ECB peak rate to 3.57%. The peak ECB rate was priced below 3.75%, for the first time since February 17.

Euro area officials, however, doused fears over a potential spillover from the SVB debacle on the old continent. Eurogroup's President Paschal Donohoe said on Monday, “Euro-area has very limited exposure to SVB.” Meanwhile, European Central Bank (ECB) policymaker Yannis Stournaras said Tuesday, “I don't see any impact from the collapse of Silicon Valley Bank (SVB) on Eurozone banks.”

Additionally, MNI reported, citing Eurosystem sources, that the ECB maintains its plan to go ahead with the 50 bps rate hike at its upcoming meeting despite declining market rate expectations amid SVB turmoil.

Aside from this banking crisis, the inflation in the Eurozone remains stubbornly high, especially with the Core inflation hitting a fresh record high in February.  The annualized Eurozone Harmonised Index of Consumer Prices (HICP) eased slightly to 8.5% in February vs. January’s 8.6%, according to the latest data published by Eurostat. The market expected the inflation gauge to ease to 8.2% in the reported period. The core HICP rose to 5.6% YoY in February, compared to the 5.3% expected and the previous print of 5.3%.

Elevated Eurozone inflation has prompted ECB President to reiterate the phrase “staying the course” when referring to upcoming rate decisions. Therefore, a 50 bps rate hike plan remains well on the cards for the central bank this week. But Lagarde’s view on the size of the future rate hikes will be closely scrutinized, depending on the bank’s inflation outlook and the US banking crisis.

Meanwhile, Lagarde and Company could also acknowledge the latest Credit Suisse turmoil, weighing whether the US banking crisis is eventually spilling over to the old continent. The central bank’s future policy path could be influenced by the banking sector rout.

On the other side of the Atlantic, Tuesday’s Consumer Price Index (CPI) data showed that inflation is becoming more sticky in the US, which will likely allow the US Federal Reserve (Fed) to keep raising rates, although at a slower pace. No further US banking woes would lead to a rebuild of confidence in the country’s financial system.

Investors will also closely examine the staff projections, as the ECB said that it remains data-dependent on its future rate hike outlook. Amidst emanating financial stability risks due to aggressive policy tightening globally in the past year, the ECB could possibly hint at slowing down its tightening pace.

Trading EUR/USD price with the ECB

The Euro traders are gearing up for another high volatility event, anticipating Thursday’s ECB policy announcements, with EUR/USD having faced rejection once again above the 1.0700 psychological level.

If the central bank stays on the course with a 50 bps hike while staying committed to tame inflation with another 50 bps move in May, the EUR/USD pair could initiate a meaningful recovery back to challenge the latter and beyond. The ECB could raise the inflation forecast, hinting at another hawkish signal.

On the other hand, a 25 bps lift-off combined with dovish policy guidance could serve as a perfect recipe for a sustained downside in the EUR/USD pair. The main currency pair could fall further toward the 1.0400 demand area. Improving Eurozone economic outlook alongside falling inflation expectations in the staff projections could be also perceived as dovish from the policy perspective.