And so, the ECB’s Mario Draghi prepares a new injection of market drugs, from Goldman:
ECB President Draghi today put additional monetary stimulus, above and beyond the measures announced in January, on the map for the December 3 meeting. In particular, he raised the possibility of stepping up the existing QE program and / or cutting the deposit rate further. EUR/$ moved substantially lower during the press conference (Exhibit 1), but we argue in this FX Views that potential downside is still substantial. As we noted in our FX Views earlier this week, we think a 10 bps (surprise) deposit cut is worth two big figures downside in EUR/$. We base that assessment on empirical work we did last year and the September 2014 surprise deposit cut, when EUR/$ fell around two big figures (Exhibit 2). At the very least, following today’s press conference, a December deposit cut is now possible, meaning that EUR/$ – which went into the meeting at around 1.13 – should reprice to 1.11. Of course, there is a good chance that December will instead bring an actual augmentation of the QE program, such that downside in EUR/$ might be larger. The kind of scenarios our European economics team envisage imply downside of at least 5-6 big figures from here, i.e. should see us return to near the 1.05 low that EUR/$ made in March.
From a fundamental perspective, we have argued all year that additional stimulus from the ECB is needed and will come, which formed the basis of our downward revision to our EUR/$ forecast back in March (when we switched to 0.95 in 12 months from 1.08 previously). We developed conviction in our call over the summer, when we showed that developments in the Euro zone, in particular structural reforms on the periphery, look like they are shifting down the Phillips curve, making it harder for the ECB to bring inflation up on a sustained basis. As we argued earlier this week, the Bund sell-off that began in May was harmful to ECB QE, but we think the trend now will be to fix the credibility of the program. Today’s meeting was indeed “decision time” for the ECB, as we had hoped. Given that shift, we think there is plenty of scope for EUR/$ downside from here, in line with our forecasts.
Indeed there is. And thus the Australian dollar has been mercifully spared any rally as the currency war heats up again. More or less every currency lifted against the euro, the US dollar prominent among them:
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David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific's leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
ECB President Draghi today put additional monetary stimulus, above and beyond the measures announced in January, on the map for the December 3 meeting. In particular, he raised the possibility of stepping up the existing QE program and / or cutting the deposit rate further. EUR/$ moved substantially lower during the press conference (Exhibit 1), but we argue in this FX Views that potential downside is still substantial. As we noted in our FX Views earlier this week, we think a 10 bps (surprise) deposit cut is worth two big figures downside in EUR/$. We base that assessment on empirical work we did last year and the September 2014 surprise deposit cut, when EUR/$ fell around two big figures (Exhibit 2). At the very least, following today’s press conference, a December deposit cut is now possible, meaning that EUR/$ – which went into the meeting at around 1.13 – should reprice to 1.11. Of course, there is a good chance that December will instead bring an actual augmentation of the QE program, such that downside in EUR/$ might be larger. The kind of scenarios our European economics team envisage imply downside of at least 5-6 big figures from here, i.e. should see us return to near the 1.05 low that EUR/$ made in March.
