The ECB is widely expected to raise rates at its monetary policy meeting on Thursday. Markets have already priced in the move, so the decision itself may have little impact. Instead, traders will focus on updated economic projections and ECB President Christine Lagarde’s press conference, which could drive significant volatility in the euro.
Futures currently price a 99% chance of a rate hike on Thursday. They also show a roughly 60-40 split between another hike and a pause at the following meeting. As a result, Lagarde’s comments could shape expectations for the ECB’s next move and influence the euro’s direction. Markets expect at least one more rate hike this year and see a strong chance of a third increase. Those expectations continue to weigh on the euro.
Why an ECB Rate Hike Could Hurt the Euro
EURUSD has remained under pressure ahead of the decision and has trended lower for the past month. A moderately more hawkish Federal Reserve explains part of the move. However, the euro has also weakened against several major currencies, suggesting that investors are losing confidence in the single currency.
Last week’s final Q1 GDP report attracted less attention than expected. The report revised Eurozone growth down to -0.2% for the first quarter. If the economy fails to return to growth in Q2, the region will enter a technical recession for the first time since the pandemic. Higher energy prices already create challenges for economic growth. Additional rate hikes could increase those pressures.
European financial assets have also underperformed recently. A recession could accelerate capital outflows and place additional pressure on the euro.
Why Another ECB Rate Hike Could Be a Mistake
The ECB aims to prevent inflation from accelerating. A weaker euro would make that task more difficult because imported goods would become more expensive. Higher import costs could add further inflationary pressure, especially while energy prices remain elevated.
Even so, ECB policymakers may accept that risk to stay ahead of inflation. During the 2022 energy crisis, many critics argued that the ECB reacted too slowly and underestimated inflation risks. By raising rates before higher energy costs spread throughout the economy, policymakers hope to contain inflation expectations and prevent a broader surge in prices.
What It Means for Forex Traders
The ECB believes that price stability supports long-term economic stability. European policymakers often highlight this objective. In contrast, political pressure on the Federal Reserve has created uncertainty in U.S. markets. A firm commitment to controlling inflation may support the euro over time.
However, investors often focus on short-term returns. If higher rates damage growth prospects, capital could continue to leave the region and weaken the currency.
As a result, traders could see a counterintuitive market reaction after the decision. An aggressively hawkish tone from Lagarde might trigger an initial euro rally, but that move could fade if investors focus on recession risks. Conversely, a dovish message could weaken the euro at first, but traders may later welcome a less restrictive policy stance if it reduces pressure on economic growth.
