ECB: Balancing act:
We argue the ECB cannot keep its options open until December. With
macro data still weak and high market expectations after a dovish July
meeting, we believe a commitment to continuing QE after March 2017 is the least markets expect. While
the ECB is aware of the adverse consequences of its unconventional
policies, we think its communication is still consistent with a full
commitment to deliver on its price target, even if the other branches of
policy are not as helpful.
preference would be for a “full package” in September, with
announcements on both the principle–buying beyond March–and the
technical details. However, we recognize a majority of the
Governing Council may need more time, as we are getting into
increasingly controversial territory. The ECB has repeatedly
disconnected the “what” from the “how” in the past. From a technical
point of view, the ECB can continue QE for now without hitting the
“scarcity wall”. Taking the time to get the relevant staff committees to
explore all options may be palatable to a majority of the Governing
The risk to our call is
that a majority of the Governing Council will have taken so much
comfort in the decent data flow this summer that the decisions on both
the principle and the technical configuration of QE will be pushed back
to October or December. While from a fundamental point of view this
would not necessarily change much, we think markets will be
disappointed. At the very least, next week we believe the ECB will have
to provide a clear deadline for the final decision to continue QE and
signal, in no ambiguous terms, that a “reflection has started”.
FX: Hard to weaken the Euro:
We do not see a large EUR impact from the ECB QE extension.
The distance from the ECB’s inflation target is so long that we do not
believe there is any investor who does not already expect the ECB to
continue QE after March 2017. The market impact will depend more on the
length of the extension and the technical changes to the QE program to
allow extending it. As we expect only a six-month QE extension, with the
technical details left for later this year, and no changes in the depo
rate, we do not see a sustained EUR move from this meeting. Once
we know the technical details, the impact on the EUR will depend on how
much more room, if any, the changes to the QE program will create
beyond the QE extension.
Moreover, the risks to the Euro from the meeting may be to the upside. If
the ECB does not announce QE extension in this meeting, markets could
take it as a signal of strong disagreements within the ECB on how to
extend QE. We are surprised we have not heard any ECB officials
referring to scenarios for policies ahead, in contrast to what happened
ahead of previous policy changes. This could suggest the internal debate
has not progressed much. FX positioning suggests the market does not
expect any surprises from the ECB.
The market is actually slightly long EUR/USD, according to our aggregate positioning indicator. The
market was short EUR/USD late last year. This position got squeezed,
reaching the longest EUR/USD position after the very weak May NFPs.
Positioning became neutral by July, but the market is now slightly long
EUR/USD, following the recent loss of momentum in US data.