Euro to Slide if ECB Fails to Signal 50 Basis Point Rate Hike on Table

The European Central Bank is unlikely to spring a policy surprise when it delivers its monetary policy decision on Thursday, but the central bank will have to be bold in its tone on rate hikes or risk the euro resuming its slide.

EUR/USD rose 0.14% to $1.0715.

“Any message that does not signal an openness to a 50bp hike would likely fall short of the market’s hawkish expectations and push EUR/USD closer to 1.0500,” ING said in a note.

The prospect of a 50 basis point rate hike has gathered steam in recent weeks following data showing that inflation hit a record high in May.

Hawkish ECB members have become more vocal for the need for aggressive rate hikes. 

Robert Holzmann, the Austrian central bank governor, said a 50 basis point rate hike was needed to send a “clear signal that the ECB is serious about fighting inflation”.

But if ECB President Christine Lagarde sticks to her previous stance for 25 basis points rake hikes in July and September that will likely push the central bank further behind the curve on tackling inflation and prompt bets for steeper rate hikes later this year and in 2023.

Markets are currently betting on a total of 130 basis points of tightening by year-end, which “would imply a 50bp hike at one of the four remaining meetings – after the June one,” ING added.

Some, however, believe that the ECB’s hands a tied on stepping up the pace of tightening as dovish members of the governing council remain wary of a sharp shift in policy amid expectations for inflation to cool.   

“As the doves on the Governing Council will certainly argue against disruptive policy shifts, and the updated projections will likely continue to suggest that inflation will eventually return to target over the medium term, pressures from the hawks for an initial hike in July of 50bps are likely to be resisted even if Lagarde opens the door to the possibility of such a move,” Daiwa Capital Markets said in a recent note.