ECB Preview: The Urgent Need to Act

Trading Tips

Thursday began with a gloomy note in Asian and European stock markets: Trump imposed a temporary ban on travel from Europe to the United States, and WHO officially announced that the outbreak of coronavirus is pandemic, adding concerns about heavier-than-expected consumption shock and increasing chances of possible recession as a fallout.

ECB head Christine Lagarde said earlier this week that the Eurozone is in danger of facing an economic shock in magnitude comparable to the 2008 shock if the Central Bank does not respond on time. Therefore, it is expected that the ECB will announce new easing measures today, however, they are likely to be more finely tuned than just a gross cut in the deposit rate. The ECB is known to be limited in its firepower since it has almost run out of ammo with lowering the key rate, reaching a level where each subsequent reduction requires many countermeasures to curb side effects.

Nevertheless, the market prices in deposit rate cut by 10 basis points to -0.6%. A rate cut as a general measure is necessary to maintain weak euro relative to other currencies, in particular to the dollar, in order to support the export sector at the most difficult time for it. At the same time, the ECB is likely to also announce an additional exemption of banks from paying interest rates on reserves in order to ease the burden on banks’ margins.

The ECB can also strengthen support through the TLTRO program – soft loans for banks which portfolio includes an increased level of loans to small and medium-sized businesses. Strengthening QE probably should not be expected, given the fierce confrontation of individual members of the ECB during the last months of presidency of Draghi.

Certain measures can be taken to support Italy, for example, imposing cap on the yield of government bonds, which should allow Italy to borrow without the threat to stability of fiscal policy.

The euro is expected to continue to decline against the dollar, as ECB measures are very likely to come as a surprise to the market, given exacerbating situation with the coronavirus in the bloc and the need for the Central Bank to act highly preventive.

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