Week’s Central Bank Meetings in Focus

Forex traders will watch intently this week as the ECB meets to raise interest rates. Equally as important, however, could be the rhetoric from policymakers in Australia, Japan, and England.

The US economic calendar is pretty light this week with non-manufacturing ISM and the minutes from the most recent monetary policy meeting being the only numbers to watch. 

However, just because there is little US data does not automatically mean there will be little action in the FX market. Quite the contrary with four central monetary policy meetings on the calendar.

Policymakers in Australia, the euro zone, Japan, and the UK will be sitting down independently to discuss the current state of their economies, the domestic and global economic outlooks, as well as monetary policy. Two central banks are expected to change monetary policy, but comments from the other central banks could also affect how their currencies trade.

This Week’s Schedule of Monetary Policy Decisions

1) Reserve Bank of Australia (RBA): Tuesday 00:30 ET / 4:30 GMT

2) Bank of Japan (BoJ): Wed-Thursday approx 1:00 AM ET / 5:00 GMT

3) Bank of England (BoE): Thursday 7:00 ET / 11:00 GMT

4) European Central Bank (ECB): Thursday 7:45 ET / 11:45 GMT

These are the current implied policy changes for the central banks that are meeting this week:

Reserve Bank of Australia (rate currently 4.75%)

• Earliest rate hike in 2012
• Minor possibility for dovish comments

The Australian dollar has come a very long way over a very short period of time. Since the middle of March, the AUD/USD has appreciated more than 7% to a record high of 1.04168. The big question for the central bank this evening is whether the recent gains in the aussie sufficiently mitigated inflationary pressures and how it has affected export demand. 

Like the Australian dollar, commodity prices have performed very well in recent weeks, which helps to support the metal and mining industry, and there is a good chance that this will have a bigger impact on the Australian economy than the strong aussie.

If the gains in the Australian currency have not deterred other countries from buying Australian commodities, the RBA will probably acknowledge that the outlook for investment and terms of trade has improved. 

Consumer spending has been a big concern for the RBA, but retail sales have slowly crept higher, which could build the case for a rate hike. The labor market has also remained strong, but with the Australian dollar trading at a record high, the RBA may want to be very careful about saying anything that could push the currency even higher. 

No export-centric economy wants a strong currency, and as a result, the RBA is not expected to raise interest rates, but the central bank's comments could decide whether the AUD/USD takes out 1.05 or falls back towards parity. 

Bank of Japan (rate currently 0.10%)

• No interest rate hikes in the near future
• Possible increase to monetary stimulus
• Could express concern about impact of earthquake

There is a relatively decent possibility that the Bank of Japan could increase monetary stimulus, keeping the Japanese yen weak against all of the major currencies. One day after the earthquake last month, the BoJ increased its asset-purchase program by JPY5 trillion. Shortly thereafter, they followed up with joint intervention to weaken the yen.

Since then, the yen has stabilized and fallen to a six-month low against the US dollar, but the Japanese economy has not improved, partly because Japan has not been able to get their nuclear problems under complete control. 

As a result, the BoJ could raise their asset purchase program by another JPY5 trillion to JPY50 trillion. Comments from the BoJ are not expected to be very positive, either, as the central bank outlines the reasons for why additional stimulus is needed.

Bank of England (rate currently 0.50%)

• No interest rate hike in April
• First 25-basis-point (bp) hike in July
• 50 bps of tightening by end of year

Unlike the other major central banks, the Bank of England is not expected to do or say anything groundbreaking. Last month, monetary-policy officials surprised everyone by voting the same way in March as they did in February. Despite growing inflationary pressures, there have been many disappointments in UK economic data. When the BoE leaves interest rates unchanged, they do not give any reasons, and because of that, the BoE rate announcement will probably be a non-event for the British pound.

European Central Bank (rate currently 1.00%)

• 25-basis-point rate hike completely priced in for Thursday
• 50 bps by June
• 100 bps by end of year

The most anticipated event risk this week is the ECB's monetary policy decision on Thursday. For the first time in two years, the ECB is expected to change interest rates. Having brought rates to a record low of 1.00%, (ECB president) Trichet has made it clear that a 25-basis-point rate hike is needed to avoid a further rise in inflation expectations. 

Recent comments from ECB officials have been very consistent and a 25-basis-point rate hike has been completely priced into the market. Despite continued downgrades by rating agencies and the earthquake in Japan, the ECB still believes that the normalization needs to begin now. 

As a result, we expect the euro to rise going into Thursday's announcement, but the reaction to the rate decision could be less favorable. How the euro responds to the rate hike depends on what president Trichet says. If he indicates that this is a one-off rate hike, investors could end up selling euro, but if he signals that they will continue to tighten in the coming months, then not only could the EUR/USD sustain its gains, but it could extend even higher.