ECB rate hike priced in, Lagarde’s comments could drive EUR/USD
The ECB will announce its interest rate decision on Thursday at 12:15 GMT and is widely expected to raise rates by 25 basis points, taking the deposit rate to 2.5%.
The meeting comes as Eurozone inflation accelerated to 3.3% YoY in August, up from 2.9% in July, while core inflation, which excludes volatile items like food and energy, fell to 2.4% from 2.5%. Energy inflation jumped from 10.3% in July to 14.3%.
Furthermore, inflation risks remain tilted to the upside. Oil prices have continued rising, with Brent at almost $100 a barrel and European natural gas at its highest level in three years as hostilities in the Middle East escalate further with no signs of peace talks anytime soon.
Guidance is key
With the hike fully priced in, it's the guidance that follows the meeting which will determine the EUR's next move. The market is pricing in nearly two additional rate increases over the next 12 months, with one potentially as soon as December and a second in Q2 or Q3 of next year.
The focus will be on how hawkish the ECB sounds. So far, there is little evidence that higher energy prices are feeding into faster wage growth or second-round effects, which could mean the ECB refrains from further tightening for the remainder of this year. Additionally, increasing rates beyond 2.5% would signal a move towards restricting economic activity.
This comes as rising bond yields are already tightening financial conditions, potentially reducing the need for further increases. Eurozone bond yields remain near multi-year highs.
ECB staff will also publish updated quarterly inflation and growth forecasts, but these are expected to be only minor revisions to the June projections.
How might the ECB impact the EUR
If Lagarde confirms that further tightening remains under discussion, this could keep yields elevated and be supportive of the euro, helping EUR/USD grind higher towards 1.1650.
If the ECB hikes rates but keeps every option open without committing to a path, the rate outlook could weigh on the euro and EUR/USD, particularly if U.S. inflation data on Friday is stronger than expected.
EUR/USD technical analysis
EUR/USD trades above its 200 and 50 EMAs, keeping the broader structure constructive. However, the pair has also formed a series of lower highs, suggesting that momentum remains weak. The recovery from the 1.1350 July low ran into resistance at 1.1710, where the falling trendline capped gains, before easing back to find support at the 200 EMA.
Buyers will need to break above the falling trendline around 1.1685 and then reclaim 1.1700, the August high, to create a higher high and bring 1.1800 into focus.
On the downside, immediate support is seen around 1.1600, followed by 1.1570, where the 200 and 50 EMAs converge. A break below this zone would turn attention towards 1.1500, ahead of 1.1350, the July low.
