ECB Quick Analysis: Lagarde unleashes euro rally, virus and more QE may push it lower

  • ECB President Lagarde sent the euro higher by saying it doesn't target the exchange rate.
  • The upgrade to GDP forecasts is already based on the euro's value.
  • Rally may be limited as the bank sees the pandemic as a significant downside risk.

"We do not target the FX rate" – Christine Lagarde, President of the European Central Bank. These words, alongside a headline saying the ECB prefers to remain calm on the exchange rate, sent EUR/USD toward 1.19.

It is uncommon for a central bank to comment on FX – but investors were eyeing such remarks following previous murmurings about the value of the common currency. When euro/dollar flirted with 1.20, Philip Lane, the ECB's Chief Economist, said he is "watching" the exchange rate. 

Lagarde acknowledged that her institution discussed the topic and also said it has a dampening impact on inflation – yet alongside other factors. 

Investors priced verbal intervention to weigh down on the euro, and when Lagarde mostly dismissed it, EUR/USD rallied from around 1.1850 toward 1.19. Analysts also foresaw an upgrade to Gross Domestic Product estimates – which happened but only for 2020. The Frankfurt-based institution foresees an output downfall of 8%.

However – contrary to reports on the previous day – the bank refrained from expressing confidence in the outlook. Lagarde stressed that risks are tilted to the downside, focusing on the coronavirus pandemic. She stated that the increase in infections over the summer may already be dampening growth.

While Lagarde unleashed a rally related to comments on the exchange rate, she pointed to what could send the euro back down – the virus. Moreover, immediately after warning on high uncertainty related to COVID-19, Lagarde reiterated the bank's readiness to provide additional stimulus.

The current Pandemic Emergency Purchase Program (PEPP) stands at €1.35 trillion and is on course to be exhausted in June 2021. Extending and enlarging it is probably on the cards in the coming months. 

Overall, it seems the ECB is ready to let EUR/USD run, allow the virus to push it lower, and then hit it on its way down with more stimulus. 

The current euro rally may prove temporary. 

More What is behind the greenback comeback? Not only the NFP

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