ECB Under Pressure to Deliver Further Stimulus

The European Central Bank Will Want to Avoid Another Failure to Communicate with Market

The European Central Bank (ECB) Chief Mario Draghi had increased the easing rhetoric last year and was shocked when what he delivered in December 3, 2015 triggered a huge sell off as markets were disappointed. The ECB lowered the rate deeper into negative territory to – 0.3 percent, extended the quantitative easing program by six months (up to March 2017), announced a reinvestment of maturing bonds into new debt and added new assets that could be part of the program. Missing from the monetary policy announcement was an increase to the asset purchase program amount. The QE program is a 60 billion euro a month, and even back in December there was an expectation of a 10 to 20 billion upgrade.

The meeting minutes from the December meeting highlight the divisions that exist within the ECB as not all members favour more QE and will not vote for it regardless of what Mr. Draghi has told the market. Further complicating things for the ECB a larger amount of QE would present a logistical problem as there are not enough bonds to purchase as early as November of this year if there is an expansion given the restrictions of the program. Anxiety has risen ahead of the ECB monetary policy decision as the benefits from negative rates are not obvious and there are plenty of obstacles for a QE expansion.

The ECB will release its minimum bid rate on Thursday, March 10 at 7:45 am EST. A press conference lead by ECB President Mario Draghi follows at 8:30 am EST. The market has priced in an interest rate cut in a range of 10 to 20 basis points. If the ECB is more aggressive a change to its QE program could be announced putting downward pressure to the EUR. Given the challenges of that outcome there is a possibility the announcement could disappoint again which would in turn lead to a higher EUR as it did in December. Investors are urged to follow the rate statement and monitor how the forex market reacts to this week’s most anticipated event.

EUR Near 1.10 Awaiting ECB Decision

The EUR/USD has stayed close to the 1.10 price level ahead of the benchmark interest rate decision by the ECB on Thursday. Volatility has been low with a 0.01 percent change in the past 24 hours. Weekly price moves have shown the shift in expectations with a 1.24 percent gain by the EUR as more traders expect a rate cut, but not a larger QE to be announced. There is a possibility those traders are caught offside if Mario Draghi has his way and delivers an aggressive easing package which would send the EUR lower and would make life easier for the central bank to boost growth.

ECB Could Over-Deliver After December Lesson

The ECB is looking to put the fiasco of the December policy meeting behind and analysts expect a mix of easing measures on March 10. The almost foregone conclusion is a 10 basis point cut leaving the benchmark interest rate deeper into negative territory; some analysts are calling for a 20 basis points that would leave the rate at -0.50 percent . An increment to the QE program in the range of 10 to 20 billion euros and an extension of the program have divided opinions.

The global market slowdown has forced the ECB to keep easing to achieve growth. Lower commodity prices have kept the threat of deflation looming over members of the European Union. The ECB has now entered the uncharted waters of Negative Interest Rate Policy (NIRP) in an effort to use unconventional monetary policy tools as it struggles to unite the diverse membership of the union.

The changing economic conditions have affected all central banks and FX prices has reacted accordingly. The U.S. Federal Reserve made a historic rate hike in December only to see fundamentals worsen and now a follow up rate hike is in doubt this year. Friday’s U.S. NFP disappointed on wage growth even though there was a massive gain in the new number of jobs over those expected by economists. The USD has been sold off as the interest rate differential priced in at the end of 2015 might not materialize. A stronger EUR has added to the woes of the ECB as imports are cheaper which come with deflationary implications and exports lose their appeal.

The market will be awaiting aggressive action and the EUR/USD will be following the final monetary policy decision and President Mario Draghi’s press conference. The European Central Bank could suffer another blow to its credibility if it falls short of expectations again. Mario Draghi has used bold rhetoric, but if the rest of the policy members don’t back him up the EUR will rise above 1.10 in a loss of confidence from the market. The flip side would be a major victory by Draghi if he did indeed persuade Germany and the other anti-easing members to go along with a bigger QE program. The single would fall against the U.S. dollar and give the European Union a competitive advantage and spur investment which is the goal of the ECB.

FX Market events to watch on Thursday:

Thursday, March 10
7:45am EUR Minimum Bid Rate
8:30am EUR ECB Press Conference
8:30am USD Unemployment Claims
4:15pm CAD BOC Gov Poloz Speaks

*All times EST
For a complete list of scheduled events in the forex market visit the MarketPulse Economic Calendar

Alfonso Esparza

Alfonso Esparza

Senior Currency Analyst at Market Pulse
Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, Alfonso Esparza established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto.
Alfonso Esparza