ECB cuts rates to escape deflation

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Yesterday was a turning point for the single currency, as the ECB finally showed that it was serious in tackling the risk of deflation in the eurozone. EURUSD saw its biggest one day percentage fall for nearly 3 years, as traders and investors capitulated. The measures were in some ways modest (0.10% cut in rates, limited asset purchase program), but were significant is that it reflected a central bank going into new realms of monetary policy deflation risks mount. The scope for further volatility on currencies has increased as a result, as the ECB turns the euro into a funding currency, the dollar turns into an asset currency and more policy divergence is seen globally between those who are recovering and those who are still mired with the fall-out of the financial crisis and other problems besides.

Volatility is likely to remain at the fore today as the US publishes its latest employment report. The rate is seen falling further to 6.1%, with headline payrolls seen increasing 230k. The Fed Chair has remained pretty bullish on slack in the labour market being able to keep rates low, but the dollar will likely respond positively to better than expected data, given the current shifts happening in FX markets. The dollar index (DXY) is now just 0.9% off the highs seen over the past four years and it’s only once this level is broken that the dollar will truly look like a currency that has broken free from the relative torpor of the post-crisis period. Unless the dollar completely falls out of bed, this week will be the 8th consecutive week of dollar gains.

Further reading:

EUR/USD Sep. 5 – Licking its wounds after Draghi, ahead of the NFP

Market Movers Episode #14: ECB drama rundown, oil prices and analysis paralysis

Get the 5 most predictable currency pairs

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