Surprise, surprise! Draghi and his men dropped a stimulus bombshell on the forex market, as the ECB announced another set of rate cuts and its plan to purchase asset-backed securities next month.
After ECB President Draghi’s Jackson Hole testimony, most market watchers were already expecting the ECB to ease again sooner or later… but not many were able to predict that it would happen this soon! Heck, it’s barely been three months since their last rate cut spree!
In this week’s rate decision, the ECB brought their main refinancing rate down from 0.15% to 0.05%, slashed their marginal lending rate from 0.4% to 0.3%, and lowered their deposit facility rate deeper into the negative territory from -0.1% to -0.2%. As though that ain’t enough, Draghi even announced their plan to start purchasing asset-backed securities (ABS) in October in order to stimulate lending.
For now, Draghi didn’t specify the exact size of their ABS program, but he did confirm that the ECB’s goal was to get its balance sheet back up from its current 2 trillion EUR level to 2.7 trillion EUR. This means that the ECB might buy bonds based on bank lending such as mortgages, car loans and business credit to the tune of nearly 1 trillion EUR.
What’s interesting is that Draghi previously mentioned that rates could not possibly go any lower when they first implemented negative deposit rates back in June. This time, Draghi said that “for all practical purposes, we have reached the lower bound.” Will they lower rates again in a few months and say the same thing? Just how bad is the economic situation in the euro zone and can it get any worse?
For one, inflation in the region currently stands at a five-year low of 0.3%, a far cry from the central bank’s 2% annual CPI target. During the ECB press conference, Draghi admitted that inflationary pressures could stay subdued and that growth momentum could weaken, enough for the ECB to lower its GDP and CPI forecasts. It doesn’t help that the European food import ban imposed by Russia and threats of further sanctions could inflict more pain on the euro zone economy moving forward, upping the odds of further ECB easing down the line.
Not surprisingly, the euro reacted very negatively to the news, falling by an initial 150 pips to the dollar right after the rate statement then by an additional 100 pips during the press conference. Euro crosses also marked sharp declines, with EUR/AUD slipping from the 1.4050 area to the 1.3850 region towards the end of the U.S. session and EUR/CAD chalking up roughly 250 pips in losses.
While the shared currency did enjoy a short breather from its dive when Draghi said that the decision to ease wasn’t unanimous, it suffered another round of selling when the ECB head clarified that some policymakers actually wanted to see more aggressive stimulus efforts. This reveals that ECB officials are very open to the idea of implementing more stimulus measures if necessary. Given the current situation of the euro zone, it probably is just a matter of time before Draghi and his men give the go signal.
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