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Euro Gains in Wake of ECB Strategy Review Headlines but Analysts Hold Little Conviction they Can Last

"The change and tolerance for inflation to exceed 2% offers no succour for EUR/USD" - Kenneth Broux, Société Générale.

ECB Lagarde

Above: Christine Lagarde. Image by Dominique HOMMEL. © European Union 2019 - Source: EP

The Euro was seen bid against most major currencies in the wake of headlines concerning the outlook for European Central Bank policy.

According to reports, the European Central Bank (ECB) will now accommodate inflation above 2.0% in over coming months in order to underpin the region's economic recovery.

Such a development would typically be expected to push the Euro lower as it implies the ECB will keep interest rate settings at record lows for protracted amount of time in order to underpin the Eurozone's economic recovery.

"This might mean that the ECB could prolong ultra-loose monetary policy, which may weigh on the common currency due to inflated liquidity, although if it translates to stronger economic growth, the euro may benefit in the long run," says George Vessey, an analyst with Western Union Business Solutions.

A clear tolerance for inflation above 2.0% would mark a departure from the existing policy of targeting inflation "below, but close to, 2%".

The headlines come as the ECB completes its latest strategic review - 18 months in the making - that will guide how it approaches monetary policy over coming years, with a press conference due at 14:30 CET.

Therefore, we could see further volatility in the single currency over coming hours as markets fully digest developments concerning ECB policy.

Euro-Dollar in decline since June

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Foreign exchange markets are currently in a regime where those currencies of central banks willing to raise rates sooner are bid higher; therefore the ECB's laggard status is not necessarily consistent with a stronger Euro.

That the Euro is rising amidst the latest developments with little fundamental basis suggests an element of technical repositioning at play.

"Conditions are oversold technically and a bounce may be overdue," says Kenneth Broux, a strategist at Société Générale.

The EUR-to-Dollar exchange rate has risen 0.20% to trade at 1.1815 while the Euro-to-Pound exchange rate has risen a third of a percent to trade at 0.8573.

"The change and tolerance for inflation to exceed 2% offers no succour for EUR/USD," says Broux.

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Lee Hardman, an analyst at MUFG says market participants are already expecting the ECB to be one the last G10 central banks to tighten policy.

Therefore an element of 'sell the rumour, buy the fact' could be at play in the foreign exchange market.

"The updated policy framework is unlikely significantly alter market expectations," says Hardman.

MUFG expects market participants will be sceptical as well over the ECB’s ability to generate an inflation overshoot compared to the Fed.

"As result, the ECB should have less success than the Fed at attempting on lift inflation expectations and lowering real yields. On balance though it is another negative development for the euro but is unlikely to be a game changer at the current juncture," says Hardman.

"The ECB review is expected to reinforce the Bank’s ultra-dovish stance and over time weigh on EUR," says Elias Haddad, Senior Currency Strategist at Commonwealth Bank Australia.

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