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The EUR/USD exchange rate has remained relatively stable following the European Central Bank's (ECB) recent policy announcement, which closely resembled the statement from September. Notably, there was no dialogue regarding potential changes to the minimum reserve policy or adjustments to the current Pandemic Emergency Purchase Program (PEPP) guidance, which currently commits to reinvesting maturing securities through the end of the next year. Furthermore, there was no explicit or implicit criticism of Italy's recent fiscal policy changes, which have put upward pressure on the BTP/Bund spread. The ECB's reluctance to address these issues might indicate concerns about the state of the real economy and hesitance to exacerbate the impact of previous tightening measures that had a strong effect on financial conditions.
President Lagarde also seemed hesitant to emphasize the extent of economic weakness, possibly out of a fear of prematurely fuelling expectations of interest rate cuts. Lagarde described the Purchasing Managers' Index (PMI) data as indicating "less robust growth," which is, in all honesty, an understatement. The Bank Lending Survey data was also cited as evidence of the transmission of monetary policy, with a notable decline in demand for loans from enterprises over the next three months, reaching its lowest level since the Global Financial Crisis.
The ECB's approach appeared to downplay the consequences of their previous actions, which could potentially raise expectations of the ECB reversing course and adopting a more accommodative monetary stance sooner than anticipated. The robust performance of the U.S. economy might be intensifying the tightening of financial conditions, as Lagarde also noted that higher sovereign yields in the eurozone were influenced by movements in the U.S. Treasury bond market. If U.S. economic data remains strong, the effects of the ECB's tighter policy could become even more pronounced.
However, I do not expect this dynamic to persist for an extended period, and I anticipate a shift by the time of the December meeting, with lower U.S. Treasury bond yields as U.S. economic data weakens. The Q3 real GDP data revealed a larger-than-expected quarterly expansion of 4.9%, primarily driven by a 4.0% increase in consumer spending. The noteworthy aspect for the markets was the data breakdown and its implications for future growth. Consumer spending contributed 2.69% to the overall GDP growth, while inventories added another 1.32 percentage points. These components account for 4.0 of the total 4.9% growth. Government consumption contributed an additional 0.79 percentage points. It is expected that inventories might offset Q4 growth while consumer spending is likely to slow significantly.
The composition of GDP and the slightly lower core Personal Consumption Expenditures (PCE) inflation rate (2.4% versus the expected 2.5%) contributed to declining yields and limited the foreign exchange impact of the stronger-than-expected GDP figure. The 10-year U.S. Treasury bond yield once again fell short of reaching 5.00% yesterday, which reduced demand for the U.S. dollar. Although the EUR/USD exchange rate remains resilient, there are still risks of further dollar strength, given the current disparities in economic performance.
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