The ECB is not expected to make any changes to monetary policy at this meeting, but markets are pricing in at least three hikes this year, with a 50% chance of a fourth.
With oil prices around US$120, fixed income everywhere has come under pressure this week, particularly in the two-year sector of the curve, which is the most sensitive to near-term expectations for inflation and rates.
Two-year German Schatz yields were up 3 basis points at 2.746%, at their highest since March 30.
Schatz yields are up 74 basis points from where they were in late February, while Italian two-year yields are 87 bps higher and two-year UK gilts are now a full percentage point above those levels.
Adding to the upward pressure on yields was Federal Reserve chair Jerome Powell’s final press conference yesterday as head of the US central bank after eight years in the job.
The Fed left rates on hold, as expected. Powell expressed the rising concern among policymakers over inflation, four of whom dissented because they thought the language in the policy statement that pointed to an easing bias was no longer appropriate.
Economists believe the ECB will leave rates unchanged today, but signal a hike, perhaps as soon as June, may be needed to combat an energy-driven surge in consumer prices.
“We don’t expect a hike today and align with the market for a hike in June, but expect the ECB to stay on hold thereafter as long as the pass-through of energy prices remains contained,” Commerzbank strategist Erik Liem said.
“Another argument against aggressive hikes is that fiscal policy is constrained.
“With monetary policy on hold for now, attention is turning to the fiscal response and the implications for debt sustainability and spreads,” he said.
Italy, which is one of the more import-reliant eurozone countries, has seen 10-year borrowing costs soar since the war started.
BTP yields, which on Thursday were up 4 bps at 3.9917%, have risen by 71 bps since late February, bringing their premium over Bund yields to 85 bps.
This spread not only reflects the extra return investors demand for lending to Italy rather than Germany.
It has become a key indicator of general risk sentiment for markets, according to numerous fixed income strategists.
The spread spiked above 100 bps for the first time in 10 months in early April, but had hit 2011-crisis-era lows below 60 before the war.