ECB rate-hike momentum could be hampered by fear of euro gains

Bloomberg

For all the European Central Bank’s signalling of an interest-rate “lift-off’’ next year, it might not get very far off the ground.
Some investors suspect even modestly higher borrowing costs will unleash a rally in the euro that undermines economic growth and curbs inflation. That could leave the currency bloc trapped with near-zero rates for years to come. Spillovers from a potential slowdown in the US, the world’s largest economy, may also weigh on the ECB’s scope to tighten policy.
The dilemma for central bankers is that the euro zone’s focus on exports and retrenchment in
spending since the double-dip recession means that the bloc is now running a large current-account surplus. That puts upward pressure on the exchange rate, so far countered by the ECB’s ultra-loose monetary stance.
“It highlights that the ECB’s job is impossible,” said James Athey, a money manager at Aberdeen Standard Investments, who says the institution may not even be able to raise the deposit rate above zero, from minus 0.4 percent currently. “It’s going to be difficult to carefully tighten financial conditions without an accident.”
Back in 2014, when the single currency was flirting with $1.40, the ECB cut the deposit rate below zero and laid the ground for an asset-purchase programme that will reach 2.6 trillion euros ($3 trillion) by December.
The euro almost plunged to parity with the dollar before slowly picking up as the economy recovered, and even those gains prompted some policy makers to express concern as it climbed to almost $1.26 earlier this year. It’s now around $1.16.

Export Sensitivity
That currency slide helped boost the current-account surplus by making euro-zone exports more competitive. The monthly surplus is now typically well above 20 billion euros, compared with a persistent deficit in the run-up to the global financial crisis.
The asset-purchase program will be capped at the end of December, and ECB officials have signaled their comfort with market expectations for an interest-rate increase around the final quarter of 2019.