Central banks set to react to lower inflation expectations – Danske Bank

Discussion in 'Fundamental Analysis' started by FXStreet_Team, Feb 23, 2016.

  1. FXStreet_Team

    FXStreet_Team Well-Known Member Trader

    Oct 7, 2015
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    Research Team at Danske Bank, suggests that a key concern for central banks currently is a sharp decline in inflation expectations in bond markets.

    Key Quotes

    “Long-term inflation expectations in both the US and the euro area have trended lower for a long time and at 1.5% are clearly below inflation targets (2% for the US and below but close to 2% for the euro area). As signalled by the comments from the Fed’s James B. Bullard, above this is a serious challenge of central bank credibility and we would expect it to trigger further aggressive easing from the ECB in March and expect the Fed to go to the sideline and halt rate hikes over the next six months.

    The market is already pricing aggressive easing from the ECB and a Fed on hold until 2017, so in this regard it should not have a big impact. However, one way to interpret market pricing is that it prices some risk of a new systemic crisis that warrants more aggressive easing, which is not totally unreasonable, in our view.

    EUR/USD has retraced a bit following the sharp rise recently. This is a natural response to a turn in risk appetite, as the EUR is acting as a funding currency and tends to weaken when sentiment turns more positive. Relative rates have also moved a bit in favour of the EUR compared with the USD. We continue to look for a higher EUR/USD in the medium term.”
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