Relative Normality On Horizon — But Divergent Monetary Policy Pathways Likely

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Eurozone Market Update

The European Central Bank (ECB) is not as far along the hiking cycle as the Fed or Bank of England (BoE) and has some catching up to do. Focussing on core inflation, not headline rates, it also went for a 50 basis point (bp) rate rise, in line with market expectations and taking the deposit rate up to 2%. The ECB’s approach was seen as hawkish. Clear in its intent and viewing market expectations as too low, the ECB said that ‘based on the substantial upward revision to the inflation outlook, [it] expects to raise [rates] further’. The market responded by repricing both February and March meetings to reflect strongly anticipated 50 bp hikes. The ECB surprised the market by announcing that, from the beginning of March 2023, the asset purchase programme (APP) portfolio — but not the pandemic emergency purchase programme (PEPP) — will decline on average by €15 billion per month until the end of the second quarter of 2023. Peripheral and credit spreads reacted negatively to the hawkish statement, causing the Italian 10-year yield to jump over 30 bps — the biggest move since 2020. The core government bond yield also rose significantly, led by the front end yield, which caused yield curves to flatten.

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