In case you missed it, ECB president Lagarde pretty much solidified a July rate hike and talked up moving rates out of negative territory by the end of Q3 here.

That has seen the euro pull higher on the day with gains extending to 1% against the dollar to 1.0675 from around 1.0610 earlier:

The break of the resistance point from the 4 to 5 May highs around 1.0631-42 is helping to add to the additional impetus, with the fact that markets are tilted to being risk-on (the dollar is also a notable laggard as such).

The more positive mood has moderated but the dollar’s sluggishness has been maintained for the most part. The aussie and kiwi are still holding gains of over 1% against the greenback so far on the day.

Going back to the euro, the latest push now opens up the potential to get back towards the 1.0800 region again. The more hawkish remarks by Lagarde are encouraging and definitely goes in line with the recent shift in policy thinking within the central bank. That said, there are risks that are worth keeping in mind. Lagarde also does mention that:

“The restrictive effect of supply shocks on growth means that demand is already, to some extent, being pulled back into line with supply. If these restrictive effects were to strengthen, the pace of normalisation would be slower.”

But the risks also somewhat work both ways to be fair as she says that:

“At the same time, there are clearly conditions in which gradualism would not be appropriate. If we were to see higher  inflation  threatening to de-anchor inflation expectations, or signs of a more permanent loss of economic potential that limits resource availability, the optimal policy would become the same as for a demand shock: we would need to withdraw accommodation promptly to stamp out the risk of a self-fulfilling spiral.”

As stagflation and recession risks draw near, it will certainly be a test of the ECB’s resolve to keep with any policy tightening measures. For now, the euro may like what it sees but bear in mind that money markets have already priced in well over four 25 bps rate hikes before the end of the year for the ECB already.

That might suggest that upside potential could be rather limited unless the ECB does firmly commit to rate hikes through to next year.

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