24 January 2018
ECB Crib Sheet: Your guide to potential market movements

How markets could react to Thursday's ECB meeting. 

Taming the hawks

We expect President Draghi to convey a rather dovish message and tame the market’s hawkish fantasies (at least for now). The President is likely to point at still weak inflationary pressure, emphasising the disinflationary impact from a stronger euro. Indeed, every time hawkish comments dominate the ECB debate, the euro appreciates and immediately provides ammunition for the ECB doves. The key thing to watch: Whether Draghi confirms the October statement that there will be no sudden end to QE.

We expect him to do so as this would be the only way – at least temporarily – to get the genie back in the bottle. It would also show Draghi’s magic of how to guide financial markets with very few words and without any action. Interestingly, the ECB has picked up the narrative from Draghi’s Sintra speech and is increasingly focusing on growth, considering inflation only as a derivative of growth developments.

Our guide to central banks in 2018

Everything you need to know about central bank policy around the world this year

Federal Reserve: Three hikes this year as inflation makes a comeback

The US economy is going from strength to strength. It looks set to expand by 3% this year given that tax cuts will further fuel domestic demand and the softness of the dollar puts US exporters in a highly competitive position to benefit from the global upturn. Inflation is also likely to rebound as distortions relating to cell phone data plans drop out of the annual comparison while robust economic activity, rising commodity prices and a gradual pick-up in wage growth add to price pressures –we could see 3% headline inflation this summer.

Having said that, we are currently forecasting no rate hike in 1Q18. Near-term activity data may be somewhat soft given bad weather in January and core inflation is likely to remain below 2% through to April. As such, incoming Federal Reserve Chair Jay Powell may choose to wait until the outlook is clearer before triggering consecutive hikes in Q2, Q3 and Q4. Nonetheless, with the Fed citing financial stability risks and loose financial conditions as additional reasons to raise interest rates, our forecast could be revised to insert a fourth hike, most probably for the March FOMC meeting.

Eurozone: Full speed ahead

The Eurozone economy is set for a fourth consecutive year of above-potential growth in 2018. While the output gap is gradually closing, inflation is only expected to rise very slowly, keeping in place expansionary monetary policy throughout the year

It's all systems go!

The Eurozone recovery seems to be going into overdrive. As far as confidence indicators are concerned, 2017 ended with a bang. The European Commission’s economic sentiment indicator (ESI) surged to 116 in December from 114.2 in November. The Business Climate Indicator rose to 1.66, hitting its highest level since 1985. Since October 2016 the Economic Surprise Index has been continuously in positive territory, reflecting an uninterrupted stream of economic indicators coming out better than expected.

The €-coin indicator, a proxy for the underlying growth momentum, hit 0.91% in December, suggesting an above 3% annualized growth pace. While we doubt that this pace will be maintained throughout the year, we believe that GDP growth in 2018 will be at least as good as in 2017. That would be the fourth consecutive year of above-potential growth. With employment rising 0.4% in the third quarter, December consumer confidence hit its highest level since January 2001, boding well for consumer expenditure.

Rising supply constraints and generous financing conditions are likely to continue to underpin the business investment revival. Notwithstanding the strong euro, export perspectives remain upbeat. The rebound in global investment is particularly helpful for Eurozone exports. The assessment of export orders in the manufacturing sector is now at the highest level in 10 years.

ECB preview: Taming the hawks

Recent euro strengthening should help Mario Draghi tame hawkish fantasies at next week’s ECB meeting

At the start of the New Year, the ECB could currently feel as if it was in the middle of the set of a movie combining the scripts of “Groundhog Day” and “Aladdin”. Every time the ECB thinks that it bought some time and quiet, either macro developments or some ECB members’ statements (or sometimes both) undermine these plans and let the genie of speculations about policy changes out of the bottle. While the ECB had actually tried to hush any exit speculation with the October decision for “lower for longer”, strong macro data, a general fear in financial markets that inflation is not dead and could return faster than anticipated as well as some ECB officials’ talks have recently again fueled new speculation about the future of QE.

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Our ECB decision day guide

Here's what our economists and strategists are thinking ahead of today's ECB meeting.

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