The movements of foreign exchange markets have been a hot topic of discussion, not only in the central bank interest rate Q&A session, but also in the World Economic Forum Annual Meeting. EUR/USD once passed across 1.25 levels in January.
“Wait and see” is not enough
ECB president Draghi was quite tough in highlighting that targeting a weak currency is breach of international commitments, when EUR/USD has a huge movement in this month. ECB also had expressed its concerns on currency volatility, which is a source of risks. However, compared to US Treasury Secretary Mnuchin’s comments, Draghi’s comment is quite dovish. ECB still favors smooth tapering after the end of QE. And there are very small chances for rates to go up in the current year.
What’s next for ECB?
The March ECB meeting, with the release of new forecasts from the ECB staff, will be the key to the next for ECB policies. It gives more time and preparation for Draghi to handle a stronger Euro environment. A stronger Euro is not good for European exporters and also inflation. The members of ECB should notice markets in their comments.
On the other hand, ECB still face a stronger economic data trend in coming months. Eurozone January flash composite PMI is 58.6, beating market’s expectation of 57.9, which suggest Eurozone economics may continue to be strong at the beginning of 2018. It is an upside bias for ECB revising their economic forecast.
Strong Euro can Stay Firm
EUR/USD is on a very strong upward momentum and seems very likely that it could stay firmly over 1.25 later this year. Market has never been so long on the Euro. “Long Euro” position has become a crowded trade. We believe some outflow money since 2014 is coming back.
The rate spread between Eurozone and US, coming from different position monetary cycle, should be narrowed in the next one or two years. It is a positive signal for Euro. Eurozone economic growth momentum beginning from 2017 also supports Euro strength.
After all, FX is not one-play game. USD is another key point for EUR value. A broad based weaker USD will lead to a strong EUR.