ECB emergency meeting, anti-frag tool and gas disruptions

Euro Weekly Fundamental Forecast: Bearish

  • Ukraine and Moldova recommended for EU bid while Georgia needs further reforms
  • Apparent ‘technical problem’ results in Germany, Italy and France among those receiving less gas than requested from Russia
  • The ECBUnsubstantiated mention of bond anti-frag tool drives bond spreads higher – emergency meeting called to redirect APP reinvestments to problem areas

Source: TradeVview, prepared by Richard Snow

EU welcomes Ukraine and Moldova as candidates for EU membership

Ursula von der Leyen, President of the European Commission welcomed the candidacy of Ukraine and Moldova as the two nations rushed to apply for membership soon after Russia invaded Ukraine. Although the process may take years, nations are on the verge of “living the European dream”.

President Voldymyr Zelenskiy tweeted: “This is the first step on the road to EU membership which will certainly bring our victory closer.”. Georgia, which has also applied for EU membership, has not yet been recommended as a candidate because it is expected to meet more conditions.

Gas destined for the EU via a pipeline does not reach the required flow rates

Germany, Italy, France and Slovakia are among the countries that have received much less gas than requested via the North 1 pipeline. Italy and Slovakia have declared less than 50% of their usual volumes. Germany said it received 60% less gas from Russia than expected. The North 1 gas pipeline accounts for 40% of Russia’s gas pipeline supply to the EU.

The shortage was viewed with skepticism by Italian Prime Minister Mario Draghi, accusing Russia of using its gas supplies for political purposes. Russia has identified the problem of the slow return of equipment that has been sent to Canada for servicing.

The shortage comes at a rather inopportune time as southern Europe experiences a heatwave, demanding more gas for cooling. Moreover, Europe is crucial in the process of storing gas for the cold winter period and is currently behind the 5-year average. Gas shortages and rationing is a topic that surfaced early in the war and could hamper the Eurozone economy (and the Euro) if such drastic measures were to be implemented.

Euro fundamental forecast: ECB emergency meeting, anti-frag tool &  Gas disturbances

ECB Tight-Lipped on Anti-Frag Bond Tool, emergency meeting required

ECB President Christine Lagarde mentioned a special anti-fragmentation tool that should ideally reduce bond market volatility when the Bank raises interest rates. However, when asked about it, Lagarde chose not to elaborate, leading to some very undesirable moves in the bond market that the Commission sought to avoid.

In an attempt to deal with unwarranted moves in the bond market, the ECB called an emergency meeting with widespread speculation that the Governing Council would reveal the aforementioned tool. Instead, the Board of Governors agreed to direct APP reinvestments to markets that need the most attention. Part of the statement reads as follows:

“The Governing Council has decided that it will apply some flexibility in the reinvestment of maturing repayments in the PEPP portfolio, with a view to preserving the functioning of the monetary policy transmission mechanism, a precondition for the ECB to fulfill its price stability mandate.”

The riskier Italian bond (BTP) and the safer German Bund spread were created below, revealing a general upward trend culminating with the peak after the June 9 ECB meeting. Bond yields in peripheral EU countries: Portugal, Italy, Greece and Spain in particular, may well see rising spreads as the ECB attempts to raise in July and September.

BTP- Bund spread explosion in response to tight-lipped ECB

Euro fundamental forecast: ECB emergency meeting, anti-frag tool &  Gas disturbances

Source: Trading View, prepared by Richard Snow

Markets have priced in a 25bps and 50bps hike by September, meaning July’s standard 25bps hike is likely to continue as markets anticipate a deterioration in the inflation outlook, justifying a 50 basis point hike in September.

Implicit market expectations via money markets

Euro fundamental forecast: ECB emergency meeting, anti-frag tool &  Gas disturbances

Source: Refinitiv

Main risk events next week

Scheduled risk events are fairly quiet compared to the bumper week just past, where we saw moves from 2 of the top 3 central banks alongside other important sentiment data.

Next week we will see European consumer confidence alongside German and European PMI flash data for June, as well as the European Council meeting. On Friday, we end the week with the Ifo business climate report.

Euro fundamental forecast: ECB emergency meeting, anti-frag tool &  Gas disturbances

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— Written by Richard Snow for

Contact and follow Richard on Twitter: @RichardSnotowFX

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