Daily Management Review

ECB Cuts Rates Further Into The Negative, Announces New Stimulus Program


ECB Cuts Rates Further Into The Negative, Announces New Stimulus Program
A significantly large new bond-buying program was announced by the European Central Bank (ECB) on Thursday with the aim of reviving the struggling economy of the euro zone.
The central bank would be spending 20 billion euros ($21.9 billion) per month of net asset purchases under the quantitative easing program for such time that it feels necessary. The bank also announced cutting of its main deposit rate by 10 basis points to -0.5 per cent which is a record low for the bank but is according to what the markets were expecting.
The ECB said that it anticipates no change or lowering of the current interest rates till such time that its inflation outlook is able to provide a robust convergence “to a level sufficiently close to but below 2% within its projection horizon, and such convergence has been persistent.”
Further, in order to provide more favorable bank lending conditions and match that of its refinancing rate, the ECB also changed its TLTRO (targeted long-term refinancing operations) rate.
Under a system announced by the ECB, preferential rates will be offered to those borrowers whose eligible net lending exceeds a benchmark which, the central bank feels, will act as an incentive for the banks to to use that money.
A two-tier rate system was also introduced by the ECB – much in line with market expectations. It is a measure that was encouraged by the heads of various major European banks during the latest earnings season.
Some form of a stimulus package had been expected by the market even though several members in the European Central Bank (ECB) Governing Council had in recent weeks attempted to tone down the scale of the stimulus measures that the central could take.
The markets had been anticipating the announcement of a stimulus by the ECB because of the US-China trade war, a lingering low rate of inflation and a slowing euro zone economy.
Markets and investors have not been encouraged by recent economic data form t euro zone even though some stability has been indicated in the latest Purchasing Managers’ Indexes (PMIs) despite the lingering weakness in the industrial sector.
Immediately after the first announcement by the ECB, there was a 0.6 per cent jump in the pan-European Stoxx 600 index because of a positive reaction by the markets to the expectations of a “bazooka” stimulus package being delivered by ECB President Mario Draghi.
The new measures however resulted in a weakening of the euro and tumbling of the euro zone bond yields. There was a drop of 8 basis points to -0.64 per cent in Germany’s benchmark 10-year bond yield while the euro dropped back below $1.10 against the dollar. There was also a drop in stocks of European banks as the stocks dropped from the early gains to drop 0.9 per cent below the flatline.
The move by the ECB to push the rates further into negative territory is “essentially a tax on euro zone banks, and for the already weakened bank-financed economy like the euro zone, this move could spell more trouble”, said Artur Baluszynski, head of research at Henderson Rowe.
“Also, with the Fed still being the tightest of the G-7 central banks, the eurodollar liquidity could come under pressure adding further stress to the increasingly challenged European banking system,” he added.