The ECB has finally taken the lead. The minutes of the ECB meeting released yesterday showed that the influence of hawks in the Governing Council is increasing and willingness of the ECB to move to tightening as early as possible has increased significantly. A rate hike in July becomes the base case for markets, but the size of the hike remains uncertain: 25 bp or 50 bp.

The minutes of the meeting clearly showed that concerns of the ECB policymakers about inflation have notably increased. Four pro-inflationary factors were identified, the impact of which could linger indefinitely, hence late policy action starts to carry excessive risks:

  • Inflation pressures in supply chains. The conflict in Ukraine and the tough fight against covid in China, according to the ECB, create a situation where import inflation may affect consumer prices for a long time;
  • Wage inflation concerns. Although the ECB does not see a strong rise in wages right now, the decline in real incomes is likely to force workers to demand higher compensation, which could eventually result in an inflationary shock to the economy;
  • Green transition. Reducing dependence on fossil fuels and increasing EU energy independence is a structural factor that will push consumer prices up at an accelerated pace;
  • Trends in deglobalization. Globalization has had a disinflationary effect on the economy for a long time, due to the fact that there has been a return of the production capacities of European enterprises back to the EU, this will also have pro-inflationary consequences.

As for the proposed monetary policy decisions in the short term, several policymakers said that loose policy was "no longer consistent with inflation outlook", suggesting that the normalization process should start earlier and be done faster. Otherwise, inflation expectations will continue to rise and this will be a stain on the reputation of the ECB, which spent almost a decade trying QE and failed to bring inflation to the target level, and now risks not being able to suppress it in time. Late action could lead to a second round of inflation effects that would have negative repercussions on financial markets, undermine confidence in the regulator's policy and be accompanied by increased economic costs.

EURUSD soared after release of the minutes of the ECB meeting in April to 1.057, but the upsurge stalled on Friday. The prospect of a further rally will depend on trends in the reopening of the Chinese economy, dynamics of oil prices, as well as a trend in escalation in relations with Russia. Technically, the pair may rise to two-week high of 1.0640-50 in the short-term, however, without solid fundamentals, the upside momentum is likely to turn into selling and the pair will continue to remain in the 1.05-1.0650 range: