ECB slightly less dovish due to rising inflation

At the December ECB meeting, the ECB said that it will let the Pandemic Emergency Pandemic Program (PEPP) expire at the end of March 2022, as expected, and will purchase bonds at a significantly lower pace in Q1 than it had previously.  However, the ECB also will extend the reinvestment time horizon for PEPP until the end of 2024!  In addition, due to the uncertain nature of the Omicron virus and due to rising inflation over the short-term (particularly due to energy), Christine Lagarde noted that flexibility is important for the transmission mechanism.  Therefore, after PEPP expires, the Central Bank will use that flexibility to adjust the current Asset Purchase Program (APP) and purchase EUR40 billion in bonds in Q2 and EUR30 billion in bonds in Q3, before returning to the current EUR20 billion maintenance level.

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ECB members also adjusted their growth and inflation forecasts.  The committee sees inflation above their target of 2% for most of 2022, ending at 2.3% for the year.  It sees 1.8% inflation for 2023 and 2024.  In addition, the committee now sees growth in 2022 at 4.2%, 2.9% in 2023, and 1.6% in 2024.

See our 2022 inflation outlook!

EUR/USD had been trading lower in a long term downward sloping channel since May 26th.  The pair halted at its most recent low of 1.1186 on November 26th, posting a false breakout below the channel.  EUR/USD then bounced back into the range and is consolidating in a symmetrical triangle.  Often when price fails to hold the breakout on one side of a channel, it moves to the other side of the channel.  The target for the top trendline of the channel is near 1.1490.

20211216 eurusd daily ci

Source: Tradingview, Stone X


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If price is to move toward target, it must get through some important resistance first.  Thus far, price hasn’t been able to get through horizontal resistance and the 38.2% Fibonacci retracement from the October 28th highs to the November 24th lows, near 1.1380.  Above there, resistance crosses at the 50% retracement level from the same timeframe at 1.1438, which confluences with the 50 day Moving Average at 1.1443.  First support is at the bottom trendline of the short term triangle near 1.1262 ahead of yesterday’s low of 1.1222.  If EUR/USD breaks below, it can run to the November 24th lows at 1.1144 and then long-term horizontal support at 1.1020.

20211216 eurusd 240 ci

Source: Tradingview, Stone X

With the ECB forecasting the end of their bond buying program at the end of Q3 2022, it is now “slightly less dovish”.  And although Christine Lagarde says she doesn’t see a rate hike in 2022 under current conditions, that could change.  Watch to see if stronger-than-expected inflation continues through Q1 2022, and if so, keep an eye on EUR/USD to see if it moves higher with it!

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