The opening remarks by ECB Trichet were not overly hawkish, which may disappoint markets that had expected Trichet to browbeat inflation. Instead, while acknowledging some of the short term risks, Trichet made it clear that medium and longer term expectations are well anchored.
With regard to price developments, euro area annual HICP inflation was 2.4% in January 2011, according to Eurostat's flash estimate, after 2.2% in December. This further increase was broadly anticipated and largely reflects higher energy prices. Looking ahead to the next few months, inflation rates could temporarily increase further and are likely to stay slightly above 2% for most of 2011, before moderating again around the turn of the year. Overall, we continue to see evidence of short-term upward pressure on overall inflation, mainly owing to energy and commodity prices. Such pressure is also discernible in the earlier stages of the production process. These developments have not so far affected our assessment that price developments will remain in line with price stability over the policy-relevant horizon. At the same time, very close monitoring is warranted. Inflation expectations over the medium to longer term continue to be firmly anchored in line with the Governing Council's aim of keeping inflation rates below, but close to, 2% over the medium term.
The ECB also saw the risks to economic outlook still slightly tilted to the downside, which means we may have to wait for inflationary pressures to filter down into other measures - like wage inflation and not just commodity and energy inflation for the ECB to act. So far, the ECB does not see these pass-through effects.
As the data overnight showed, the Euro-zone area as a whole may not be strong enough to take rate hikes - though the core countries like Germany and France can.
Trichet's comments coincided with a good jobless claims report from the US which helped the EUR/USD to extend its decline from overnight.
For a technical look at the downside and upside risks to the EUR/USD from a technical perspective, see our EUR/USD Technical Update.
The EUR also came under pressure against GBP, JPY, AUD and others showing that this may be a more broad based acceptance that the EUR got a bit overstretched recently.
The Bank of England looks closer to raising rate than the ECB at this point and during the past 5 sessions the EUR/GBP fell from 0.8650 to 0.8450.