ECB Update

On Thursday, the ECB unveiled its latest package of measures, and the least we can say is that the markets where not expecting this. I think the Economist had the best analogy to describe the market reaction, “ The European traders where expecting to receive champagne and dozens of roses, instead Draghi showed up with a box of Ferrero Rocher”

The ECB decided to reduce its deposit interest rate by 10 basis points, to -0.3%, and to keep its 60 billion a month bond purchase until March 2017, extending it from the initial date of September 2016. But the reaction of the market regarding this package was pretty intense. The US and European stocks sank, the French CAC 40 and the German DAX declined by more than 3% after the release of the news. The Euro Surged against the dollar, the Euro stretching to $1.09 from $1.05 last week reached its highest level against the dollar in a month. The investors were expecting the ECB to cut interest rate deeper and increase its bond buying program, indeed the central bank under Draghi got the reputation of over-delivering. This time, they were obviously wrong.

On Friday at an event at the New York Economics Club, Mario Draghi said, “There is no doubt that if we had to intensify the use of our instruments to ensure that we achieve our price stability mandate, we would.” His comments at the event were perceived to be an attempt to calm the markets after Thursday’s reactions. Ken Watteret an economist at BNP Paribas said that “The content of the speech is not enough to reverse yesterday’s ‘own goal’ but it does represent something of a pushback against the tightening of monetary conditions,”

This week events raised a few questions about Central Banks communications with the markets and how the ECB and Draghi in led the markets to expect more than what they actually got. Also other concerns regarding the ECB decision came from Michael Heise from the Wall street Journal writing that “Unless European leaders start improving the institutional framework for the euro, the result could be a dangerous increase in systemic risk: governments that face less pressure to rein in spending and reform their economies; banks that pile into government debt without taking account of national default risk, and a central bank that vacuums up that debt from banks, exposing taxpayers to the risk of paying for the whole exercise,”

Nevertheless the ECB is considering the market reaction as a “Tantrum” from the market ignoring, the already extreme measure that it has taken. Central Bankers are standing by their decision and affirming that the markets are wrong on this one, and that in time the outcome of these policies will prove it. Now the focus will go to Washington DC and the American central bank which, everybody expect to raise interest rates in a near future.

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