Thursday, 19 July 2018

Reports ECB eyes more accommodation

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The easier monetary policy stance from China is certainly the main push behind the current rally but just prior to these headlines the European Central Bank provided some of its own where newswires cited unnamed sources suggesting an increase in bond purchases, further cuts in interest rates and even taking the Refi Rate below 1.00% are all possible.

The crux particularly for increased intervention appears to be a dependence on getting Euro governments to sign up to the core member states’ push for a closer fiscal union, especially starting on the prudential side where deficit limits are to be adhered to with a possibility of penal measures being imposed.

The more conventional measures of future rate cuts are basically a given, with the market increasingly expecting the ECB to take rates below 1.00% (12x24 EONIA currently trades around 0.70% on Tradeweb).

True enough the ECB’s extraordinary liquidity measures are also making for easier financing rates (again evident in EONIA trading well below 1.00%), but instead of debating ECB cuts this says more about how useful any such cuts might be when funding markets are already effectively there.

Back to the scope for increased intervention and push for greater prudential fiscal union, IFR maintains the details of how such a prudential fiscal union might be established have yet to be defined. So with this in mind doesn’t currently seem worth making judgements about how likely such an effort will be.

But what has seemed clear is that if Europe can get such a plan together, then core governments – including Germany – will suddenly warm to the idea of closer fiscal integration with Euro bonds topping the agenda. Indeed there are reports of German agreement to this idea in the long run despite vocal objections to it at present. These are of course not near-term prospects, but closer fiscal union still looks like it will be offered up in time.

Which is where an increased intervention role for the ECB comes in, as more active peripheral markets purchases (or some are even pushing for core markets intervention too) would then be used to help bridge the financing until a more workable and stable environment is attained.

IFR doesn’t doubt closer fiscal union is a goal which policy makers increasingly look like they are pushing for.

We do remain cautious regarding how extensively such a prudential fiscal union may be adopted, primarily since under its current guise it imposes more austerity and does nothing to promote growth. This lack of growth prospects then poses two problems as it doesn’t present peripheral governments with much attraction to signing up for prudential fiscal union, and then even if they do markets will still remain sceptical depending on actual economic and fiscal performance.

These remain however much bigger issues where again the market’s increasing focus is on what can be done more immediately, where the December ninth EU summit should establish the framework for prudential fiscal union, and then the way can potentially be opened for easier ECB policy in due course.

So Euro and even global markets are right to start expecting more from December 9, though investors would also due well to be mindful of the complications therein.

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