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Will the ECB Ease Tomorrow?

28 October 2020 By Mircea Vasiu

A lot of pressure has been built lately on the ECB to act earlier than the market consensus. If anything, the COVID-19 pandemic’s second wave finds Europe in an extremely weak spot – infections grew exponentially, and so did the number of deaths, at least recently.

As expected, the European states reacted in front of the new wave of infections. Lockdowns and restrictions are the norms, albeit with little or no results so far. Spain reported that the unemployment rate exceeded 16%, and the future looks gloomy, to say the least. France, Germany, and Italy, too, report a daily record number of infections.

The ECB meeting tomorrow is all about monetary policy. However, as it was often the case, the ECB may consider being proactive in its efforts to sustain the business environment.

What Can the ECB Do Tomorrow?

Tomorrow’s ECB decision, and, more importantly, the press conference, come at a crucial moment in 2020. One can argue, without a doubt, that this is the most important moment in the trading year for monetary policy and financial markets as a whole.

The ECB must consider not only the underlying economic conditions in the Euro area, but also at what happens in the other parts of the world. COVID-wise, Europe feels like the worst place to be at the moment. Economic-wise, things are not so bad, despite the recent restriction measures and the, probably, upcoming general lockdowns.

Outside factors will likely weigh on the ECB’s decision tomorrow. While tempted to act, the central bank may decide to wait until December.  The consensus is that the ECB will wait until December to deliver a new round of stimulus, but the risk is that by that time it will be too little, too late.

The transmission mechanism of a chance in monetary policy needs time. The earlier a central bank act, the better. In this case, it is not that the ECB has no ammunition left – it has. However, faced with renewed adversity from the pandemic, the ECB may decide, for once, to be more proactive than it usually was in the past.

First, it can expand the QE program. Second, it can lower the deposit facility rate even further. Currently, it stands at -0.5%, but many voices argue that it can go as low as -1% until the recession passes. Third, it could further strengthen its forward guidance policy for the years to come.

All these are steps that the ECB can take as early as tomorrow. All the conditions grant them. However, the ECB is known for not delivering market surprises. Unlike other central banks (e.g., Bank of Canada), the ECB carefully considers all the communication channels and tries to deliver as close a monetary policy decision as indicated.

So far, it hints at no changes tomorrow. If we do have a surprise from the ECB, expect a massive EUR reaction. By all means, the ECB will have an excuse not to follow the rules this time. Everyone will understand the circumstances, considering the pandemic’s advance.

Will the ECB do it?