Andy Scott, associate director at foreign currency specialists, HiFX, comments on latest ECB figures
Euro sinks as ECB does everything it can to prevent deflation.
“As inflation among the Eurozone economies continues to fall amid high unemployment, weak demand and German driven austerity, the ECB have been forced to do whatever it takes to prevent deflation. Three months on from its last cut in both the main lending rate and the deposit rate, taking the latter into negative territory for the first ever time, it cut both rates again by 0.1%. It also announced an asset backed security and covered bond purchase scheme to begin from next month, though no amount was outlined. In addition, they reaffirmed that all members are unanimous in their agreement to use all unconventional instruments (meaning quantitative easing) if needed to address risks of an excessively prolonged period of low inflation.
“Essentially they are trying to force banks to lend through even cheaper rates on the long-term loans that are available from this month, adding more money into the financial system and charging banks for any excess cash they’re holding that they would otherwise deposit overnight. They incorrectly forecasted the growth and inflation outlook and are now behind the curve and need to catch up quickly. The difficulty is that many of the economies in the Eurozone are seeing minimal growth or are contracting with high levels of unemployment and economic indicators, pointing to a worsening outlook. In such an environment, banks are understandably going to be more cautious when making lending decisions and equally, so too are individuals and businesses about borrowing. This is why Mario Draghi has signalled that monetary policy alone can only go so far to spur growth and prevent disinflation turning into the dreaded deflation.
“The ECB also cut its growth forecasts for 2014 from 1% in June to 0.9% and for 2015 from 1.7% to 1.6%. If governments within the single currency bloc are either unwilling or are prevented from supporting their economies through fiscal measures, at least the ECB can say they did all they could to prevent the bloc slipping into a Japan style period of deflation and recession/stagnation.
“At the time of writing, the euro was down over 1% against the dollar and the pound had fallen to its lowest level against the U.S. dollar since July 2013. With tensions in the Ukraine and the subsequent sanctions imposed by both sides only just starting to filter through into the economic data, the outlook for the Euro area looks rather gloomy and we would expect the actions of the ECB to continue to weigh on the euro against both currencies. We continue to look for EUR/USD to end the year towards 1.2500 and GBP/EUR towards 1.3000.”