The euro continues to fall against the USD, reaching levels not seen since late 2017. Part of the rationale for the demise of the single currency has been the political risk emulating from Italy. However, the larger concern is the pace of ECB 'normalisation'.
We continue to view the discussion over fundamentals less important than the desire to remove policy settings (negative interest rates and asset purchases). A similar pattern was recognised as the Fed's strategy back in 2014.
Review of the ECB April rate decision minutes provides no real insight or clarity into members' thinking. The lack of definitive views indicates 'normalisation' is still on. At the accompanying press conference, President Draghi indicated that economic growth moderation was due to temporary factors and reflects a correction from a high growth rate.
Minutes of the Governing Council meeting confirm this constructive view on the slowdown in growth and noted risks are generally balanced. The GC was less concerned about domestic factors but considers the risk from global environment as high.
Regarding inflation, the GC considers the outlook as improving but underlying pressures weak. While the risk of trade war and drag on the euro-area economy has been lower since April, incoming EU economic data continues to disappoint. Yet, recovery in global trade should start to support Europe's growth moving forward.
With regards to inflation, the weaker euro and higher oil prices will support midterm inflation expectations. As growth prospect and inflation outlook firm, the discussion will again focus on path of monetary policy in the July meeting. We anticipated that, in July, the ECB would provide additional details to the deceleration of asset purchases in autumn.
Our constructive view on the euro needs the risk hype around Italy to fade but then fundamentals are set for a solid currency rally. Overall conditions are strong enough for ECB to gradually 'normalise' even if inflation trend is weaker than expected. A central bank is only as creditable as policy firepower. And right now the ECB needs to re-arm.
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