A Few Things to Note on the Way to the ECB Meeting

The euro is well bid ahead of the ECB meeting, despite weak German and Spanish industrial production figures and a small increase in US Treasury yields, keeping the 10-year above 2.6%. Germany reported a 0.5% (month-over-month) decline in March industrial output. The market had expected a small increase before yesterday's poor orders data signaled the risk of a soft report today. Spain reported a 0.6% increase in its year-over-year over year measure (seasonally adjusted). The market had expected a 1.6% pace.

The ECB meeting and the following press conference is the key event of the day and week. The consensus expects nothing beyond some dovish comments. Such verbiage, which would likely include a brief discussion of the wide array of options the ECB faces should it deem them necessary.

The IMF and OECD have called upon the ECB to policy. To the extent that investors expect anything from the ECB it is not until next month, when the ECB staff updates its macroeconomic forecasts. We do not expect the ECB to forecast deflation for the region and see the possibility of a revision higher to the GDP forecasts. Without action and little new in the way of guidance, the market looks poised to challenge the $1.40 level.

Draghi has guided the ECB into rate cuts prior to staff forecasts in his tenor as the head of the central bank. We suspect that there is a slightly greater chance for measures that do not really depend on fresh inflation or growth forecasts, but more technical in nature. An example of this would be a cut in the lending rate, the upper end of the ECB's rate corridor, which now sits at 75 bp. A lower lending rate could help stabilize EONIA, which had spiked to almost 70 bp at the end of March and 45 bp at the end of April.

There does seem to be a disconnect at the moment. Excess liquidity plunged and as of yesterday appeared to be at new lows (since 2011) near 74 bln euros. EONIA has fallen to just below 11 bp, which is near the lows set in early January.

Elsewhere there is also a Bank of England meeting. However, as there is practically no chance of a change in policy, in which case the MPC does not say anything, the real interest lies with next week's employment report and the BOE's quarterly inflation report. It is the latter in which the BOE will provide its forward guidance. A euro rally after the ECB could see sterling push through the $1.70 level. Sterling may outperform the euro, with the single currency moving to the multi-year low set in mid-February near GBP0.8160.

Norway's central bank has met and left rates on hold, as universally anticipated. Still, the euro has fallen to new lows for the year against the krone in response to a much stronger than expected industrial production report. Industrial output jumped 2.3% in March. Manufacturing rose 0.8%, four times more than the consensus forecast,and the February series was revised to 0.4% from 0.2%. 

Tomorrow Norway reports inflation measures (PPI and CPI). The headline and underlying rate of consumer prices are expected to have eased, leaving the Norges Bank in no hurry to lift rates. The first hike is seen toward the middle of next year. The euro has broken below is shelf near NOK8.20. We expect it to more toward NOK8.05 by the end of the quarter.

The krone is the strongest of the major currencies today, but the Australian dollar is just behind it. The Aussie has been lifted by the failure of the central bank to step up its rhetoric and a strong employment report. The economy grew 14.2k jobs in April (consensus was for about 9k), and they were all full--time positions. Although many observers claim that the March series also beat expectations, we note that all the jobs created were part-time jobs and had actually lows more than 22k full-time positions. 

Our sense then is that over the two month period, Australia has still lost full-time jobs and tomorrow's Statement on Monetary Policy is likely to recognize this. We suspect that the prospects for this will prevent a sustained move today much above $0.9400.

The Australian dollar may have also been helped by stronger commodity imports by China. China reportedcontrary to expectations, that both imports and exports rose in April (0.8% and 0.9% respectively). This produced a $18.46 bln trade surplus, more than twice the March surplus ($7.7 bln) and about 10% bigger than the consensus expected. The correction from the over-invoicing (to disguise capital flows) continued as suggested by the 31.4% drop in exports (year-over-year) to Hong Kong. In addition, the increase in exports does not fit well with the official and HSBC PMI reports. We note that China imported a record amount of oil, which seems linked to the start-up of a new large refinery and to building the country's strategic reserves.

Fed's Yellen delivers testimony to the Senate Budget Committee. We do not look for new policy signals. We see Yellen's testimony yesterday as largely unremarkable. Her caution on the housing market may have been a slight elaboration of the FOMC statement. We expect the June forecasts to incorporate the dismal Q1 GDP print, and this means a reduction in this year's growth forecast. It is more an accounting function than a new more negative outlook for the economy. We do not expect it to alter the pace of tapering of change the consensus view for a rate hike in late 2015.

Several other Fed officials speak in the North American morning. Plosser is the only voting FOMC president speaking today, and he is a hawk. Governor Tarullo speaks as well at a conference in Chicago that non-voting Evans will also speak. Lastly, the Treasury finishes its quarterly refunding today.