Going into the ECB meeting, traders were worried that the Central Bank President would stress the need for ongoing liquidity measures to support the economy and the risks posed by balance sheet adjustments. However I said in yesterday’s post that no new announcements would be made before the stress test results are released because if the results effectively restore confidence, additional measures by the ECB may not be needed.
Trichet spent most of his press conference talking about the importance of the stress tests which is positive because it implies that they believe the stress tests will yield good results, restoring confidence in the banking sector. The market has been concerned that the terms of the stress tests maybe too lax but based upon Trichet’s tone, he believes that investors will be satisfied by the outcome.
Although the ECB is still providing unlimited liquidity, they are scaling back their bond purchases and keeping the 3 month tender for the time being. Inflation expectations are firmly anchored because even though there are upside risks from things like oil prices, domestic cost developments are contained. Their biggest concern is the financial markets because even though GDP is expected to grow at a moderate and uneven pace, second quarter euro region GDP is likely to be much stronger than the first. The latest euro area data including this morning’s German Industrial Production were very good and these are the type of upside surprises that do not support a double dip recession. Trichet also chastised the market’s sentiment, saying that there is always a tendency for the market to be excessively pessimistic.
A move to 1.30 in EUR/USD may hinge upon the results of the stress tests, but Trichet’s encouraging words should provide support for the currency.
Meanwhile, very strong Australian employment numbers and the big drop in jobless claims have helped to spark risk appetite in the forex market. The improvement in Australian labor market adds pressure on the Reserve Bank of Australia to raise interest rates next month while the drop in weekly and continuing claims in the U.S. provide some relief for the U.S. labor market.