ECB officials confirm: Eurozone inflation to stay above target for a longer period
- The Euro edges up to near 1.1385 against the US Dollar as the latter corrects.
- Elevated Oil prices have revived hawkish Fed bets.
- ECB officials have warned that high energy prices could keep price pressures elevated for longer.
The Euro (EUR) trades slightly higher to near 1.1385 against the US Dollar (USD) during the European trading session on Friday. The major currency pair edges up as the US Dollar corrects marginally after a strong upside move the previous day.
At press time, the US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, is slightly down to near 101.37.
The USD Index gained sharply on Thursday as US Treasury Yields surged due to the revival in hawkish Federal Reserve (Fed) interest rate hike expectations. According to the CME FedWatch tool, the odds of the Fed delivering an interest rate hike in the policy meeting next week stand at 33.7%, significantly higher than 11.8% recorded last week.
Elevated Oil prices due to the squeezing of energy supply from the Middle East amid the closure of the Bab el-Mandeb Strait and the Strait of Hormuz in the wake of the war between the United States (US) and Iran have boosted inflation expectations. Such a scenario forces traders to raise hawkish Fed bets.
On the Eurozone front, European Central Bank (ECB) officials have also warned that inflationary pressures in the old continent could remain above the central bank’s 2% target for a longer period due to the global energy supply disruption. On Thursday, the ECB kept its key borrowing rates unchanged, as expected, and denied committing to any pre-defined interest rate path.
The majority of ECB officials have been warning of prolonged upside inflation risks; however, they rule out the risk of second-round effects of an inflation shock. The second-round inflation effects indicate the spread of a price shock to other price-related variables such as wages and services, etc. The occurrence of the risk often leads to a quickening monetary-tightening cycle.
During the day, Governing Council member and head of Lithuania's central bank, Gediminas Simkus, said, “$100 oil will have repercussions on inflation, and it is seen higher than target for a long time.”
On Thursday, ECB President Christine Lagarde also said in the press conference, “Risks to inflation tilted to the upside." Lagarde added, “Energy shock likely to keep inflation well above target into first half of 2027."
Inflation FAQs
Inflation measures the rise in the price of a representative basket of goods and services. Headline inflation is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core inflation excludes more volatile elements such as food and fuel which can fluctuate because of geopolitical and seasonal factors. Core inflation is the figure economists focus on and is the level targeted by central banks, which are mandated to keep inflation at a manageable level, usually around 2%.
The Consumer Price Index (CPI) measures the change in prices of a basket of goods and services over a period of time. It is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core CPI is the figure targeted by central banks as it excludes volatile food and fuel inputs. When Core CPI rises above 2% it usually results in higher interest rates and vice versa when it falls below 2%. Since higher interest rates are positive for a currency, higher inflation usually results in a stronger currency. The opposite is true when inflation falls.
Although it may seem counter-intuitive, high inflation in a country pushes up the value of its currency and vice versa for lower inflation. This is because the central bank will normally raise interest rates to combat the higher inflation, which attract more global capital inflows from investors looking for a lucrative place to park their money.
Formerly, Gold was the asset investors turned to in times of high inflation because it preserved its value, and whilst investors will often still buy Gold for its safe-haven properties in times of extreme market turmoil, this is not the case most of the time. This is because when inflation is high, central banks will put up interest rates to combat it. Higher interest rates are negative for Gold because they increase the opportunity-cost of holding Gold vis-a-vis an interest-bearing asset or placing the money in a cash deposit account. On the flipside, lower inflation tends to be positive for Gold as it brings interest rates down, making the bright metal a more viable investment alternative.
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