The tough ECB rhetoric will underpin the Euro, but economic fears are liable to increase which will pose important risks to the currency.
The dollar strengthened to test Euro support levels near 1.5370 in early US trading on Thursday, but then reversed course sharply.
At the latest council meeting, the ECB left interest rates at the 4.00% level. In the press conference following the decision, however, ECB President Trichet took a much tougher stance than expected. Trichet stated that inflation concerns had increased and that the bank was strongly committed to avoiding second-round inflation effects.
The ECB raised its 2008 inflation forecast to 3.4% from 2.9% previously while cutting the growth estimates. Trichet stated that there had been some calls for interest rates to be increased at the meeting while the bank was in a heightened state of alert. The ECB head stated that a small interest rate increase was possible and could come as early as the July meeting.
The very hawkish tone will underpin the Euro in the short term. There will, however, be a suspicion of more serious divisions within the ECB members while there will also be fears that any increase in rates from current levels would further damage the Euro-zone economy. More serious signs of weakness would also increase political opposition to an interest rate increase.