📝 Exchange Rate Channel Most Efficient Way To Ease Inflation: ING

The trade weighted euro exchange rate lost almost 2%. However, compared with one year ago, the euro has depreciated by more than 13% vis-à-vis the US dollar and around 6% in trade-weighted terms. According to standard estimates, the euro depreciation since March could add another 10bp on inflation this year and 20bp next year. With headline inflation rates above 7%, it is hard to see why some ECB officials are concerned about a few additional basis points. The weak euro might not be the reason for high inflation, but it is at least reinforcing it. The main reason why ECB officials have become more vocal on the exchange rate could be the fact that even if higher policy rates will not bring down energy prices or fill containers in Asia, higher policy rates could strengthen the euro. The so-called exchange rate channel could currently be the most, and probably only, efficient way to ease inflationary pressures relatively quickly. This is why the hawks at the ECB might be inclined to use the currency as an argument to support a 50bp rate hike in July and strong forward guidance that more rate hikes are to come. Expect more than the four references to the exchange rate at the April meeting in the coming weeks ahead of the ECB’s 9 June meeting. - ING Macro Research