The ECB publishes a mea culpa for consistently and substantially underestimating inflation

Markets

Dollar dominance reflected in new multiyear highs on a trade-weighted basis (DXY 103.93), against the yen (USD/JPY 130.95), against the euro (EUR/USD 1.0472) and against sterling (GBP/USD 1.2412). Fed Chair Powell’s comments last week ignited the dollar rally which was reinforced at first by a sell-off in US Treasuries and next by spill-over effects to the stock market (aggravated by Chinese growth slowdown worries). Powell clearly wants to pursue a strategy to get to neutral policy rate levels as soon as possible, starting with a 50 bps rate hike next week. The quantitative tightening process will begin as well. Yesterday’s Q1 US GDP numbers hid underlying domestic strength from personal consumption and business investment and won’t derail the Fed’s tightening plans. The US yield curve flattened yesterday with changes ranging between +2.6 bps (2-yr) and -2.8 bps (30-yr). German yields rose by 8 bps (30-yr) to 11 bps (5-yr) across the curve. The EU 10y swap rate tested the YTD high at 1.68%. Yesterday’s European moves were entirely driven by higher inflation expectations. National inflation numbers showed signs of accelerating core inflation in Spain, Belgium and Germany and highlighted the ECB’s inflation/credibility problems even as headline numbers rose slightly (GE), stabilized (BE) or even came off peak (?) levels (SP).

Asian stock markets trade in positive territory this morning. Japan is closed. Chinese stocks eventually lagged as the government recommitted to its zero-covid policy, but made an impressive catch-up towards the end of dealings. They currently gain 2% to 4% as the Chinese politburo pledged more policy support in order to reach growth targets. It said that authorities should “strengthen macro adjustments, strive to achieve full year economic and social development goals, and keep the economy running within a reasonable range”. The Asian performance hides losses for US stocks following disappointing guidance in Apple earnings. Today’s eco calendar contains EMU GDP and CPI numbers, but those won’t alter perception against European assets as long as the ECB doesn’t play ball. US personal income/spending data, PCE deflators and Chicago PMI are wildcards. Overall, we think risk sentiment will determine whether or not there’s room for some correction on general FI and FX market trends. If any, we don’t expect them to go far ahead of next week’s FOMC meeting. UK markets are closed on Monday for May Day holiday.

News headlines

Next week’s Northern Ireland’s elections (May 5) for the Stormont assembly could result in a historic shift in the balance of power. The Sinn Féin is in pole position to take over from the pro-British DUP. In a recent poll, the unionist party drew 26% support, 6 points ahead of the DUP. If realized, it would mean Sinn Féin’s leader Michelle O’Neill would become First Minister for the first time since the power-sharing government was established following the Good Friday Agreement in 1998. The second-biggest party, projected to be the DUP, gets to deliver the Deputy First Minister, a position that is equal in power. However, the DUP has repeatedly refused to say if it would accept such a role, as it may create the perception of the party propping up a Sinn Féin government. One minister cannot be in function without the other. Both parties also differ in view on the Northern Irish protocol, which the DUP wants removed. The NI assembly gets to vote on key parts of that protocol in 2024.

The ECB published a mea culpa for consistently and substantially underestimating inflation. It made its worst ever forecast in December, when eurozone inflation was expected to decline to 4.1% in Q1 this year. Instead, prices soared to 6.1%. The ECB blamed unprecedented energy price increases, supply chain bottlenecks and the effects from reopening the economy for the huge misses. But it added that “international institutions and private forecasters have recently made similarly large errors” and labeled its accuracy as similar to that of the Fed and BoE. The latter have both started to normalize policy in response though. EMU inflation is due later today with April headline inflation seen stabilizing at 7.5% but core inflation picking up to 3.2%.

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