Central Banks in Focus on Thursday as BoE, ECB Take Center Stage

Thursday brings two key interest rate decision from Europe, first the Bank of England followed by the European Central Bank. The decisions followed by the European Central Bank's updated economic forecasts should set the tone for early market action Thursday.

Bank of England

The Bank of England is expected to announce that rates will stay on hold at 0.5 percent, where they have been for over a year. However, the Bank could update markets on its Funding for Lending Scheme, where it gives cheaper financing rates to banks that boost lending domestically. Also, the Bank could shock markets by boosting the size of its quantitative easing program, although no change in the size of the program is expected until incoming Governor Mark Carney takes over for outgoing chief Mervyn King next month.

David Song, analyst at DailyFX, weighed in ahead of the meeting. "As the BoE anticipates a sustainable recovery in the U.K., we may see a growing number of central bank officials adopt a more neutral to hawkish tone for monetary policy, and the Monetary Policy Committee may slowly move away from its easing cycle in the coming months as the region is expected to face above-target inflation over the policy horizon. Nevertheless, the BoE may refrain from releasing a policy statement once again as the central bank continues to stick to the sidelines, but another 6-3 should spark a bullish reaction in the British Pound as market participants scale back bets for more quantitative easing."

European Central Bank

The European Central Bank is also expected to release its decision Thursday morning, although no change is expected from its policy. The benchmark repo rate is expected to remain at 0.5 percent after it was cut 25 basis points back in May although there has been some chatter that the bank could cut deposit rates into negative territory.

"As the region faces a prolonged recession, the ECB remains poised to lower its outlook for growth and inflation, and we may see a greater discuss to implement a negative interest rate policy (NIRP) across the euro-are," Song said. "Despite the mixed views surrounding Asset-Backed Security (ABS) purchases, ECB President Mario Draghi may look to expand the balance sheet further in an effort to encourage private sector lending, and the euro remains poised to face additional headwinds in the second-half of the year as the European policy makers retain a reactionary approach in addressing the risks surrounding the region."

Market Set Up

Currency markets eagerly await the news as markets appear to be setting up for a sharp move on the news. "The EURUSD has challenged the $1.3100 figure the past several days but thus far, no close above this level has yielded," said Christopher Vecchio, currency analyst at DailyFX. "Although loans to peripheral small- and medium-sized enterprises have continued to fall the past several months – and 12-months of contraction for the region, on the whole – it is unlikely that the ECB introduces any new, substantive measures to turn the tides of the recession."

"With that said, there is room for excessive volatility surrounding the rate decision, and it is of our belief that we could see the Euro (not limited to the EURUSD) “pop and fade.” That is, there has been speculation that the ECB will implement negative interest rates at some point in the near-future, but without such a policy being implemented tomorrow, the Euro stands to gain on a policy hold. "

"However, when ECB President Mario Draghi takes to his press conference, the Euro stands to suffer, as his focus will remain on the region's weak economic position, the rising rates of unemployment in the periphery, particularly among the youth, and the fact that discussions over negative interest rates continue." Vecchio expects the euro to initially pop against the dollar towards 1.32, the late-April swing highs and recommends selling with a tight stop above 1.3243, targeting 1.2930 and 1.2860 over the coming week as the move fades.