At 20:45 GMT on Thursday (December 10), the European Central Bank will announce its interest rate decision, and then at 21:30, ECB President Lagarde will also hold a press conference.
For the interest rate decision, the market is widely expected that the ECB will increase easing, after Lagarde and the ECB’s chief economist Philip Lane and other key officials have also made it clear that they are about to take action to boost the European economy. Here’s a look at what to expect from the meeting.
I. Highlights of the Conference
01 What major adjustments will be made to PEPP and TITRO?
It is almost a certainty that the ECB will increase easing at this meeting, so what monetary policy tools will the ECB choose to help it further easing? How will the intensity and duration of the easing be adjusted?
In response to these two questions, investment banks generally expect.
At the meeting, the ECB will extend the €1.35 trillion emergency bond purchase program (PEPP) for six months until the end of 2021 and expand it by €500 billion.
At the same time, the ECB will also adjust its targeted long-term refinancing operations (TITROs) to provide new long-term loans to banks and extend the period during which banks can receive additional incentives for providing physical credit facilities.
The ECB will adjust its most important policy levers, the PEPP and TLTROs, to ensure that the asset purchase program remains unchanged next year, while a series of new TLTROs will provide banks with favorable financing conditions, said Lauri Halikka, a strategist at Nordea S.A. Bank (SEB).
02: Will there be further interest rate cuts?
Will there be further rate cuts at this ECB meeting? The general market expectation is that it is unlikely.
There is a high probability that the ECB will keep its benchmark interest rate unchanged at this meeting, and implied interest rate expectations from the Eurozone OIS suggest a 78% probability that the ECB will keep its interest rate policy unchanged.
However, it is worth noting that the market sees the probability of a rate cut at this resolution as up 4% from the 18% expected in mid-November, and now stands at 22%. In addition, investment bank Evercore ISI noted.
Given that the market has digested many factors, we are concerned that the ECB may find it difficult to restrain euro strength over the long term, even if extending the duration of the PEPP means that the pace of quantitative easing will slow over time. This also raises concerns about the ECB’s attitude toward a possible future reduction in the deposit facility rate, and the possibility (unlikely, but worth considering) of new interest rate guidance.
03: How to assess the economic outlook?
Recent smooth progress on vaccines has improved the outlook for economic expectations, but high debt and unemployment may persist for longer. In addition, there are other risks hanging over the European economy, such as the possible failure to agree on the $1.8 trillion economic stimulus among EU member states and the failure to reach a trade agreement between the EU and the UK by the December 31 deadline.
On the whole, as the economic uncertainty is still very large, the epidemic has not been effectively controlled, and the specific promotion plan of the new crown vaccine has not yet been formulated, the European economic outlook is not optimistic, still facing greater downward pressure.
04、Will inflation expectations be lowered?
On the inflation front, economists interviewed earlier have lowered their medium-term inflation forecasts for the eurozone, predicting that inflation will not climb to an average of 1.5% until 2023, which is still well below the ECB’s “close to 2%” target.
In recent weeks, the strength of the euro has also put downward pressure on inflation. This week, the EUR/USD exchange rate climbed above 1.21 at one point, the highest level since 2018, according to Lena Komileva, chief economist at G +Economics.
“The stronger euro has almost offset the inflation boost from all the fiscal stimulus this year.”
In addition, the minutes of the ECB meeting released late last month indicate that overall inflation is now expected to remain in negative territory longer than forecast in September, based on observations. Inflation in Europe is expected to remain at negative levels until early 2021.
Second, can the increase in easing hold down the euro’s rally?
In theory, the euro is under pressure to depreciate as the ECB ramps up its easing, but a growing number of market participants believe that further quantitative easing will do nothing to stop the euro from strengthening – and they believe that the ECB has already exhausted its policy tools.
And, most analysts seem to have reached a consensus: perhaps only aggressive, potential spot-rate intervention is likely to stem the euro’s surge.
In addition to the expectations of the investment banks, technically speaking, EUR/USD has broken through the resistance of its horizontal range since the end of June, and the pair is maintaining above its 5-, 8-, 13-, and 21-day moving averages, which is a bullish sign.
In addition, the IG Sentiment Index, a contrarian indicator, shows that the majority of retail investors are currently net short EUR and the ratio of net shorts to net longs is 2.58:1, suggesting a possible rise in the EUR/USD exchange rate.
Finally, it is important to note that on the same day that the ECB announces its decision, EU leaders will also be discussing the EU Recovery Fund, which is up to €1.8 trillion in size.
The EU recovery fund has actually reached a consensus in July this year, but some member states have not yet ratified it, so it has been delayed to take effect, with the main resistance coming from Hungary and Poland. If it can be passed, it is believed that it will also bring some impact to the market.
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