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Euro exchange rate: ECB likely to keep chipping away at interest rate advantage, risk sentiment to be muted

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Category: Money Transfer UK

Published on Monday, 05 December 2011 12:44

Written by Sam Coventry

Outlook for the euro exchange rate for the week of the 5th of December.

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The euro exchange rate is broadly higher this morning, the euro dollar is 0.3% higher while the euro pound is virtually unchanged from Friday's close.

The outlook for the euro exchange rate this week is not an inspiring one - from the perspective of Barclays Capital that is.

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Events this week are likely to have opposing impacts on the EUR says an FX Weekly note from the investment bank.

"We believe the EU summit on the 9th will make important progress which will strengthen risk appetite and reduce the risk premium on all European currencies. We expect this will be a mild EUR positive. However, many investors are still waiting for the big bazooka from the ECB," say Barclays.

Draghi has hinted that the ECB would do more in terms of backstopping the market, but this seems conditional on European authorities agreeing to move towards closer fiscal integration first.

Unfortunately, events this week are in the reverse order, with the ECB's press conference occurring before the EU summit has begun.

"It therefore seems unlikely to us that the ECB will explicity commit to much or start aggressively buying Italian and Spanish bonds just yet," say BarCap.

On the interest rate front it is expected from next week's ECB press conference is at least a 25bp cut in the refi rate as well as a commitment to more non-standard measures such as a new LTRO (2-3 years).

"We and the market expect this to be followed by more cuts at the start of 2012. The EUR's interest rate advantage has been a key support for the currency and as the carry falls, the EUR is likely to be dragged down," say BarCap.

Without a more aggressive commitment from the ECB, analysts therefore expect the EURUSD to move largely sideways this week as a falling risk premium offsets a falling carry advantage.