Inflation: This Is How Central Banks Will Fight The Beast

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Analysts believe that investors will be treated to a tantalising mix of important economic news (dealing with Inflation) and speeches from the monetary authorities this week.

They say investors should look at the European Central Bank, which is the prime component of the Eurosystem and the European System of Central Banks, and its three-day symposium in Sintra, Portugal. It began yesterday and it maybe the main course and a potential market mover.

The forum’s main topic will be “the difficulties for monetary policy in a rapidly changing world,” with a panel discussion on Wednesday involving prominent central bankers as a key focal point, says Forex Time.

The end game for the central bankers is to tame inflation. The problems they are facing, according to the CB’s bosses, are the pandemic which is not going away that easily and the Ukraine war, which is made worst with the hasty sanctions against Russia.

Hence, in their speeches at the ECB Symposium, the world’s top central bankers have warned that the period of low-interest rates and moderate inflation has ended.

Geopolitical mess

The president of the European Central Bank, Christine Lagarde, the chairman of the Federal Reserve, Jay Powell, and the governor of the Bank of England, Andrew Bailey, all made calls for quick action to reduce inflation during the annual meeting of the institution.

According to them, if interest rates aren’t raised soon enough, high inflation might persist and force central banks to take more dramatic measures to reduce price increases to more manageable levels.

Furthermore, they say the two main elements impacting the economies today, the Ukraine war and the pandemic, have reversed the trend after a decade of ultra-low inflation amongst the developed economies.

They warned that the splintering of the global economy into competing blocs risked fracturing supply chains, reducing productivity, raising costs and reducing growth.

To prevent this fracturing, they probably believe the sanctions against Russia have to deliver blows to Mr Vladimir Putin’s government, to begin with. But it is not doing much damage at the moment.

Russia is at war, a real war, against Ukraine and is reaping the benefits from a longer war than its opponents expected.

Moscow is now positioned as a central player in the fracture of the globalisation standards. It is pulling China away from the global organisations such as the WTO where the trade flow to the ‘developed’ nations are guaranteed.

China is also putting pressure on a major manufacturing centre that feeds the European and American economies, Taiwan. Another geopolitical tension that could spark a war in the Taiwan straits will add to the pressures China is putting on the ‘West’ in the South China Sea and possibly cut short the supply chains to their economies.

Nevertheless, it is important to keep in mind that the euro has risen versus the majority of G10 currencies so far this quarter. “But because the ECB is trailing behind the Fed, which has moved forcefully to calm the market, the currency is down around 4.7 percent vs the powerful dollar,” says Forex Time.

Taking a quick look at the technical picture, the EURUSD is balancing above significant support at 1.0400 on the monthly timeframe. The last time prices secured a monthly close below this level was in December 2002.
The trend is heavily bearish on the weekly timeframe as there have been consistently lower lows and lower highs.

Hawkish ECB vs Inflation

According to the forex trading platform, this is where things get interesting.

On the technical charts, the EURUSD remains in a downtrend with the widening policy divergence between the ECB and Fed supporting bears in the past.

However, the ECB has recently joined the hawkish camp and signalled to markets it plans to raise interest rates by 25 basis points in July.

In fact, the central bank could also move ahead with a 50bps hike in September as it battles the inflation beast! Such a development is likely to favour euro bulls – limiting downside losses on the EURUSD.

Lagarde has warned that “what happens on the energy front [and] what happens on the war front” will affect inflation expectations.

This could require the ECB to shift from its current “gradual” approach to raising interest rates — starting with a quarter percentage point rise in July — to a “more determined” policy stance.

Grab your popcorn and find a comfortable seat because the show is about to begin, says Forex Time.

First to watch, it says, is San Francisco Fed President Mary Daly who stated that another 75 basis point interest rate hike in July is her “starting point” but if the economy slows more than expected a 50 basis point could be reasonable.

Next is the U.S. consumer confidence which dipped in June to its lowest point in 16 months.

 

The Conference Board reported that its consumer confidence index fell to 98.7 in June from 103.2 in May, the lowest level since February 2021 and the second consecutive monthly decrease.

American consumers expressed a more pessimistic view of the future economic outlook as the expectations index fell to 66.4, the weakest reading since Mar-13.

As a forward-looking indicator, the weaker consumer confidence points towards weaker momentum in the latter part of the year as Americans are more worried about inflation, particularly due to higher fuel and food prices, says MIDF.

Besides the bigger hike in interest rates, the central banks are expecting to see a more targeted and sustainable fiscal policy.

“Eurozone inflation is estimated to have hit 8.5% in June, higher than the record-high of 8.1% seen in May. If the reports meet expectations, this could boost speculation over the ECB adopting an aggressive approach towards higher interest rates to fight inflation.

“Such a development could boost the euro. We also have the US ISM manufacturing and Global manufacturing PMI figure for June on Friday afternoon which may show how the US economy is coping amid the Fed’s aggressive rate hiking cycle,” say Forex Time.

With so much going on this week, the EURUSD has the potential to throw investors on a roller coaster ride!

Photo: https://unsplash.com/@brunonw

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