Euro Shakeup: Trichet Hints at Raising Rates

The European Central Bank shook up the financial markets today as ECB chief Trichet has spoken what Euro bulls have been desperately wanting to hear - that the ECB is very likely to hike interest rates at its next meeting. Today, the ECB has left its key overnight lending rate at a six-year high of 4% for the twelfth consecutive month, in line with market’s expectations. But what’s really moves the markets isn’t so much of the rate outcome, but what Trichet said after the ECB meeting:

In our next meeting we do not exclude to raise rates by a small amount in order to secure solid anchoring of inflation expectation. I don’t say it’s certain, I say it’s possible.

The financial markets are completely unprepared for this, that the ECB is thinking of actually raising rates instead of possibly cutting them, and that Trichet would voice out its next possible move as early as now. The Euro immediately shot up sharply versus the US dollar and the yen following his remarks, and is likely to stay buoyant.

Trichet added that the governing council “is in a state of heightened alertness”, and that despite the signs of slower economic growth in the second quarter, the fundamentals of the Euro area are sound. It has obviously come to a point such that it is more crucial to keep high inflation down than to boost a sluggish economy. Trichet said, “Inflation rates have risen significantly since the autumn of last year, owing mainly to strong increases in energy and food prices. HICP inflation is now expected to remain high for a more protracted period than previously thought.”

UK Rates Unchanged

On Thursday, the Bank of England’s Monetary Policy Committee voted to keep the main rate steady at 5%, a decision which was widely expected. This is the second straight month that the BOE has decided to maintain the rates after a 25 basis point cut in April, the third since December 2007. Although the UK is beginning to feel the weight of declining house prices, policymakers couldn’t afford to slash rates lightly as recent data showed that UK’s annual inflation rose to 3% in April, the highest level in 13 months from 2.5% in March.

US Payrolls Data On Friday

Watch out for the Biggest Lottery of the Month - the US non-farm payrolls - on Friday at 1230 GMT, and you can see payroll results instantly here. The average expectation is that the unemployment rate will inch up to 5.1%, compared to 5% in April, and that 60,000 jobs were lost, marking the fifth straight month of job losses.

Forex Trading

It has been an exciting trading day in the currency markets. EUR/USD earlier hit a low of 1.5360, an expected bear target, and then bounced strongly upward from there to a high of 1.5560 - a 200-pip rally - as of the time of writing. Topside targets are around 1.5580-90, 1.5630. The Euro surged even more against the Japanese yen, rallying more than 260 pips from 162.20 to a peak around 164.90 today, just a few pips short of this year’s high of 1.65.00. Of course, Euro’s strength is now being revived by ECB Trichet’s hawkish comments.

USD/CHF went below 1.0400, still unable to break above stubborn resistance around 1.0520-30. Next bear targets are 1.0330-40, 1.0300-10.

The US dollar rose for the sixth straight day versus the Canadian dollar today, breaking past 1.0200.

Friday:

German industrial production 1000 GMT

Canada unemployment rate 1100 GMT

US non-farm payrolls 1230 GMT

Fed’s Kroszner speaks on financial markets 1245 GMT

US wholesale inventories 1400 GMT

Comments

[droskoph]

Why shoud the ECB bail us out by dropping rates? Our Central Bank has built a house of fiat credit that is collapsing while the world watches. For the sake of keeping up a good front, we have decayed from within.

[Lou Thomas]

This column is too obvious. We need more analysis.