Now we've seen the cut, what will Draghi say at the conference?
- ECB cuts main refinancing rate to 0.05% from 0.15%
- Possible surprises – will ABS/covered bond purchase plan be revealed?
- Consolidation on cards for exchange rates
The consensus toward the end of last week was that Draghi will present a dovish message in continuation of his speech at the Jackson Hole meeting, possibly presenting further information and even a tighter schedule for the asset-backed securities programme. Also, some ideas on what conditions would be first have to be seen before a full-blown quantitative easing were expected to be presented.
Latest consensus: wait-and-see
After some time thinking, many commentators have begun to doubt the amount of dovishness Draghi can offer for now. The ABS-programme will take a lot of time to implement correctly, and until the design, required regulatory changes (some of which are not in the hands of the ECB) and participation by the banking sector are in place, not much concrete information can be provided. QE, while still an option, is less useful and much more difficult to implement in Europe than in the US, and Draghi’s Jackson Hole-speech also talked about this.
Draghi’s pledge for easier fiscal policy and more inflationary policy in Germany is largely seen as the key point of the Jackson Hole speech. Draghi is making an implicit threat: if Germany does not ease its purse strings and drop its inflation phobia and balanced budget-mantra, the ECB would in time be forced to introduce QE. The obvious danger is that Germany halfheartedly promises to do what the ECB hopes, but never delivers, and the implementation of the QE would be delayed, and eventually be made in too small amounts for a too short time.
The differences between US and euro area, and the experience from US and Japan, suggests that QE in Europe would have to be massive. I doubt Germany would allow that. The most probable outcome is that Germany fails to deliver easier policy, and the ECB is eventually allowed to do a small QE for a short time. And when it fails, the opponents of QE can say “see, I told you so”.
The ECB could commit to a date and a target amount for the ABS-programme – something that a last-minute leak seems to suggest.
The ECB could also ease the terms of the TLTRO even further, which would make sense to do now, as when the first allotment becomes available on September 18, the terms could not be changed. By lowering the interest rate of the TLTRO even further the ECB could ensure a higher pick-up. The latest surveys suggest that the ECB’s earlier projections of the banks’ appetite for TLTRO could be too optimistic.
Market implications: consolidation
During the EURUSD’s fast fall, there have been two occasions of the pair range-trading before continuing its fall. With the psychologically-important 1.30 level already close, and possibility for a wait-and-see from the ECB, there is a possibility that the pair will enter a period of consolidation and wait for the TLRTO in few week’s time. The chance of a correction higher is also real – all that is needed is a disappointment of the markets that the QE does not seem to be coming in the shape and form that would be required.
Fortunately, possible disappointment over QE would lead to outflows from the peripheral bond markets, which would weaken the euro. My base guess is thus a period of consolidation.
Charts: Equity markets show a loss of momentum, USDJPY and EURJPY near resistance levels, EURUSD's bear move has had two previous consolidation periods, close-up shows possible scenarios of a move to a new low and consolidation.