EUR: Trichet tempers tone

ECB President Trichet surprisingly chose to focus on downside risks in comments published overnight. He warned that a significant market correction remains likely and the ECB is not pre-committing to anything. However, the ECB’s base case for growth is still a trough in Q2 and Q3 and further increases in oil and commodity prices are a concern. Yesterday newswires reported that the EU parliament has drafted a call for the ECB’s inflation objective to be shifted upward from the “close to, but below 2% requirement”. Any such change would require a change of the Maastricht criteria and is unlikely to happen anytime soon. Current talk signals politician’s unease with rising interest rates. On Wednesday Eurozone HICP inflation was confirmed at 4.0%. Core inflation (ex food, tobacco and energy) came in at 1.8% from 1.7% in May. The pick up in headline HICP (0.4% m/m, prior 0.6%m/m) was again driven by food and energy prices. Looking ahead, we expect inflation to pick up to 4.3% in August, which is one of the reasons behind our call that the ECB will likely raise policy rates in September by 25 bp to 4.5%. We are now short EURGBP as a trade
recommendation on expectations for a less hawkish ECB and further deterioration in European growth figures. Sterling may also benefit from a rebound in risk appetite as fears over the financial sector ease.