ECB to Review Negative-rate Impact on Banks, UK Gets Another Brexit Extension
Yesterday, it was an eventful day, with one of the main events being the ECB decision. Although there was no new policy action and no new information in the meeting statement, President Draghi noted that officials will consider whether they need to mitigate the possible side effects of negative interest rates. The other big event was the EU summit on Brexit, which concluded overnight with EU leaders granting the UK another extension, up until October 31st.
ECB Could Mitigate Negative-rate Side Effects if Needed
Yesterday, we had a very busy day and one of the main events was the ECB policy decision. The European Central Bank decided to keep all three of its interest rates unchanged as was widely anticipated, while the statement accompanying the decision contained no new information. Officials simply reiterated that interest rates are likely to remain at their present levels “at least through the end of 2019”, and that they will continue reinvesting, in full, the principal payments from maturing securities purchased under QE past the time when interest rates will rise and in any case for as long as necessary.
Thus, investors turned quickly their attention to President Draghi’s press conference. In his introductory statement, the ECB Chief reiterated that the risks to the euro area outlook “remain tilted to the downside”, while with regards to the details of the new TLTROs, announced last month, he noted that they will be communicated at one of the forthcoming gatherings. He also added that policymakers will consider “whether the preservation of the favorable implications of negative interest rates for the economy requires the mitigation of their possible side effects, if any, on bank intermediation”.
Following reports a few weeks ago that the ECB is studying a tiered deposit rate in order to lower the charges banks pay the ECB to park their excess liquidity, the Q&A session included many questions on that front. However, Draghi repeatedly replied that it is too early to decide whether further action is needed and what instruments could be used. He noted that the Council just had a consensus on the need for further analysis. “We need further information that will come to us between now and June, and in a sense the projections that we’ll have in June by the staff of the ECB will be an important part of this information set”, he said.
The euro slid during the press conference, perhaps as Draghi confirmed the reports that the Council is studying the case of mitigating the possible side effects of negative interest rates. Although the use of a tiered deposit rate was not confirmed, it was not taken off the table either. If this is the instrument of choice, it would mean that interest rates are likely to stay at current levels for longer than what the current guidance suggests. In any case, the common currency rebounded in the aftermath, and during the early morning Thursday, it was found slightly higher against most of the other G10 currencies. It underperformed only against NOK, and slightly versus AUD and GBP.
The Norwegian Krone was the big winner, rallying after Norway’s better-than-expected inflation data for March. The headline CPI ticked down to +2.9% yoy from +3.0%, but this was higher than the +2.8% forecast. Most importantly, the core rate rose to +2.7% yoy from +2.6%, beating estimates of a slide to 2.5%. With both rates well above the Norges Bank’s 2% objective, but most importantly near the Bank’s own projections, market participants may have become even more confident that Norwegian policymakers will proceed with another hike later this year, at a time when other central banks, like the Fed and the ECB abandoned such plans.
We got inflation data from the US as well, while later in the day, the minutes from the latest FOMC meeting were released. The headline CPI rate rebounded to +1.9% yoy from +1.5%, exceeding the +1.8% forecast, but the core rate ticked down to +2.0% yoy from +2.1%. The dollar strengthened at time of the release, perhaps due to the rebound in the headline print, but the gains were short lived, as a core CPI rate stuck around the Fed’s symmetric target of 2.0% does not allow investors to start placing any hike bets. Passing the ball to the Fed minutes, they revealed that several policymakers noted that “their views on the appropriate target range for the federal funds rate could shift in either direction based on incoming data,” This suggests that the cut-discussion has officially entered the Fed room as well (apart from the RBA’s an the RBNZ’s). However, the greenback did not respond much at the time of the release, perhaps due to the fact that investors are already pessimistic with regards to the FOMC’s future actions, assigning a 54% chance for interest rates to be lower by the end of the year.
EUR/CAD — Technical Outlook
After finding good support around the 1.4905 hurdle on the first day of April, EUR/CAD-bulls managed to push the pair back up, above the psychological 1.5000 barrier. The rate is currently balancing near the 200 EMA on the 4-hour chart. At the same time, the pair is trading now above a short-term upside support line taken from the low of April 1st. Our oscillators started picking up positive momentum again, which could be a good indication that we may see the rate getting pushed a bit more to the upside, at least in the short run. Thus, we will remain somewhat bullish for now.
A strong move higher, leading to a break of the 1.5050 hurdle, or even the 1.5060 level, could create a higher high and open the door to the 1.5105 barrier, which is marked near the high of March 28th and near the low of March 22nd. We may find the rate getting held there, or even retracing back down a bit. But if the pair continues to trade above the 1.5060 hurdle, the bulls might pick up on that, take advantage of the lower rate and push EUR/CAD back up again. Such a move may drive the rate past the 1.5105 obstacle and hit the 1.5135 level, which is the high of March 27th.
On the other hand, a move below the 1.5030 area could raise concerns about the short-term upside scenario, which could be placed on hold for a while. But if the rate continues sliding and breaks below the previously-mentioned upside line, EUR/CAD could then travel to the 1.4990 zone, marked by the low of April 10th. If the selling continues, a break below that zone could lead the pair to the 1.4970 level, which is marked by the lows of April 4th and 9th.
EU Grants the UK a Six-Month ‘Flextension’
Apart from the ECB policy meeting, the other big event was the emergency EU summit on Brexit. Specifically, EU officials had to decide whether they should grant the UK another extension to Article 50. The decision was no surprise. It was more or less in line with what a draft statement suggested on Tuesday, but shorter than what most market participants may have anticipated. Specifically, EU officials agreed to offer a six-month extension, up until October 31st, with the flexibility of the UK being able to leave earlier if the Brexit package can secure majority in Parliament. The extension also requires the UK to participate in the EU Parliament elections if it fails to ratify the Brexit accord before May 22nd, and if the nation does not obey, it would have to leave without a deal on June 1st.
The pound barely moved on the decision, as the outcome was more or less in line with expectations. The only difference was that instead of a year, EU officials offered six months. This was mainly because French President Macron opposed to a longer delay, pushing leaders into hours of debate before finally compromising to a six-month duration. As for our view, it is hard to imagine what could happen now. Although much longer that the previous one, with what we have in hand now, this extension seems like another “kicking the can further down the road” move. The government has yet to find common ground with the Labour Party, while according to EU Chief Negotiator Michel Barnier, the withdrawal agreement will not be reopened, facts that keep the chances of the deal passing through the UK Parliament at a fourth attempt very low. Unless more hardliners decide to soften their stance and back the deal in order to avoid any other alternative that keeps the UK even more closely tied to, or even into, the EU.
GBP/CHF — Technical Outlook
GBP/CHF started showing positive signs lately, with the pair now forming higher lows. But the price action from around mid-March suggests that the pair is stuck in a small range between the 1.2920 and 1.3170 levels. At the time of writing, the rate is once again running slightly above its 200 EMA on the 4-hour chart. That said, we will start examining higher levels if we see a break above the upper bound of the aforementioned range.
If GBP/CHF gets another push from the bulls, this could drive the rate above the 1.3170 barrier, which is the upper side of the range and marked by the highs of April 3rd and April 4th. But in order to get slightly more comfortable with higher areas, we would like to see another spur to the upside, breaking the 1.3200 hurdle, which could then open the path towards the 1.3240 obstacle, near the lows of March 15th, 18th and 19th. We may see a small throwback thereafter, but if that is just a temporary occurrence, then another leg of buying could be possible, and it could bring the rate towards the 1.3305 level, marked by the high of March 19th.
Alternatively, a rate-drop back below the 1.3100 zone could spook the bulls from the field again and allow the bears to have their moment and drive the pair to the 1.3010 hurdle, which is near the lows of April 2nd and 8th. If this area is not able to withstand the bear-pressure, GBP/CHF could easily make its way lower, potentially testing the 1.2920 support area, which is the lower side of the aforementioned range and marked by the lows of March 21st and 29th.
As for Today’s Events
During the European day, we get Germany’s final CPIs for March, but as it is the case most of the times, the final numbers are expected to confirm their preliminary estimates. We get inflation data for March from Sweden as well. Both the CPI and CPIF rates are expected to have ticked down to +1.8% yoy from +1.9%. The fact that both rates may slide further below the Riksbank’s inflation target is unlikely to be pleasant news for Swedish policymakers, but as we noted in the past, we prefer to pay more attention to the core CPIF metric, which excludes energy. Since the previous meeting, both January and February inflation data disappointed, with the core CPIF rate staying at +1.4% yoy. That said, GDP data showed that the economy expanded twice as fast as was anticipated in the last quarter of 2018, while Riksbank’s Deputy Governor Cecilia Skingsley noted that the plan remains for higher interest rates later this year, even with inflation below the 2% objective. So, having all that in mind, we believe that a rebound in the core CPIF rate may increase speculation for a Riksbank hike in 2019, but another slide may raise concerns on that front. Yes, Skingsely said that a hike could come even if inflation is below 2%, but an underlying rate of +1.3%, or lower, will be far from warranting such a move in our view.
In the US, the PPIs for March are due to be released. We usually use the PPIs as a gauge of where the CPIs may come in, but bearing in mind that, this time, producer prices are coming after consumer prices, we will pay less attention than usual. In any case, both the headline and core rates are expected to have held steady at +1.9% yoy and +2.5% yoy respectively.
As for tonight, during the Asian morning Friday, China’s trade data for March are coming out. Expectations are for the nation’s trade surplus to have increased to USD 8.8bn from USD 4.1bn. Exports are expected to have rebounded +7.3% yoy from -20.8%, while imports are anticipated to have fallen at a slower pace than in February (-1.3% yoy from -5.2%). Following the better than expected PMIs and the rising CPI and PPI rates for the month, a rebound in Chinese exports may ease further concerns with regards to the state of the world’s second largest economy.
There are also seven speakers on today’s agenda: From the Fed, we have Vice Chair Richard Clarida, New York President Williams, St. Louis President James Bullard, Minneapolis President Neel Kashkari, and Board Governors Randal Quarles and Michelle Bowman. BoC Deputy Governor Carolyn Wilkins will also step up to the rostrum.
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