CFDs are a leveraged product and can result in losses that exceed deposits. Trading CFDs may not be suitable for everyone, so please ensure you fully understand the risks and take care to manage your exposure.

ECB decision day: what can the market expect?

Given the recent moves in the euro and the shock action from the Swiss National Bank last week, markets have all but priced in quantitative easing from the European Central Bank; but is it possible that the market may be expecting too much from Mario Draghi? 

CFDs are a leveraged product and can result in losses that exceed deposits. Trading CFDs may not be suitable for everyone, so please ensure you fully understand the risks and take care to manage your exposure.
Mario Draghi
Source: Bloomberg

We’ve had the hints, we’ve had what could be interpreted as an ambiguous ruling from the European Court of Justice with respect to OMT, and we look now to be on the cusp of losing Greece as a eurozone member state.

Even though some 80%+ of Greeks polled say that staying in the eurozone is the preferred option, there may not be a choice. It remains unlikely that any additional deals will be achieved on the country’s debt load. These high levels of debt coupled with deflation make it nigh on impossible for the beleaguered country to shrug off the pressure on its economy. If the debt is not being eroded by inflation over time, it creates a fairly big issue.

With the Greek elections due to take place a mere three days after the ECB announcement, attention will quickly shift to the Mediterranean from Frankfurt, and we can certainly look forward to some volatility in the euro crosses.

Inflation, wage growth and (the lack of) unemployment have been problems for some time now. Price stability, the single most important mandate for the ECB, has been trending down for over a year and has fallen below zero. At this point, the ECB has to act – not simply telegraph that it will act.

What could QE look like?

Expectations as to what QE from Mario Draghi will look like differ, depending on who you ask.

To expect stimulus like that of the Federal Open Market Committee might be a little optimistic. Despite the fact the ECB is independent, it is hampered by having to tailor monetary policy for 19 member states. A ‘one size fits all’ policy for an area that doesn’t share fiscal policy is no mean feat.

The core economies, specifically Germany, do not feel that debt mutualisation is a good idea, and yet that it what has formed the basis for any QE that we have witnessed since the financial crisis. Thus, the overall effectiveness of quantitative easing will depend on a number of things.

Risk sharing

As above, the degree of risk sharing is important. The difference between the risk being pooled or apportioned to national central banks is a key tenet. The sense is, if a country goes into default, then its central bank will come to the rescue.

This does not tend to support the word ‘union’ in the phrase ‘currency union’, however, and could see the ECB/single currency project lose some credibility.

Size of stimulus

The size of the stimulus will also be closely watched. Around €500/550 billion has been priced into the market at this point. A larger amount would impress on the market the willingness of the ECB to regain price stability, and help negate the obvious risk that we will see the market sell off on the actual news. Recent reports imply that the ECB could buy at least €600 billion worth of assets, however, and this could double if the bank decided to continue with the stimulus for two years.

The DAX has been front running this week’s announcement, exceeding recent record highs. This may topple if the ECB does not at least meet expectations.

Equally, the fall in the single currency has already been notable; the chance of a short squeeze and a potential pullback towards the $1.20 zone cannot be ruled out.

Composition of asset purchases

The composition of asset purchases by asset class and jurisdiction will also be part of the assessment.

Solidarity from EGC

Most importantly, the European Governing Council will need to display solidarity and some sort of consensus around the stimulus if credibility is to be achieved.

What is certain is that, in the medium term, QE without fiscal stimulus and reforms across the zone would be fairly meaningless. The prospect of the Greek elections on Sunday may also lend their own brand of volatility to financial markets.

This information has been prepared by IG, a trading name of IG Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication.  Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. 

CFDs are a leveraged products. CFD trading may not be suitable for everyone and can result in losses that exceed your initial deposit, so please ensure that you fully understand the risks involved.

Find articles by analysts