The Euro is slowly inching towards the psychologically important 1.50 level. Today the single currency made a new record high on the back of broad dollar weakness and stronger inflation and service sector data.
We are less than 48 hours away from the ECB’s interest rate decision and even though no one expects rates to be increased, everyone does expect ECB President Trichet to become increasingly hawkish. Today’s economic data provides further evidence of why hawkish policy is his only option. With producer and consumer prices both continuing to climb, inflation is a persistent problem. Oil prices were up another $2.70 today which will only exacerbate inflation in the months to come and the ECB is fully aware of that. Having been so proactive with injecting liquidity in the midst of the credit crunch in August, the ECB may choose to be proactive again with combating inflation. They need a strong Euro to offset the rising the cost of oil which is why we haven’t heard one word of complaint from Trichet even though the Euro has risen above 1.45. Also, the latest service sector PMI data indicates that the impact of the strong Euro on the overall economy is still limited. However not all news was good news; Eurozone retail sales were softer than expected. As long as spending is increasing and not decreasing, we are not worried.