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ECB interest rate decision coming this week, EUR/USD poised for a further slide,

One_million_EuroThe upcoming ECB interest rate decision is a critical one. The main reason is the huge fall in inflation in the euro-zone. At an annual rate of 0. 7%, the ECB is not even close to its inflation target which is set at 2%. The euro already is taking a beating due to possible ECB monetary policy loosening (as well as other reasons showing slowdown in the EU economy). Will the ECB provide the fuel for further declines or will there be something unforeseen?

We anticipate EUR/USD weakness heading into the report and a continuation following. Read more why we think so below

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Here are 4 potential scenarios for the Nov 7th rate decision for the single currency, with the level of probability and the particular potential reaction of EUR/USD:

1 .Absolutely no action, but give hints: Given the desire to maintain the believability, the ECB might avoid action now, but inform you that it will show new measures very soon – in December or January. Measures could change, and Draghi could avoid providing details here, while making it clear that the ECB is about to act, and needs much more data and longer to make a decision.

Probability of occurrence: high.

2. Cut the key interest rate: Draghi already cut the key lending rate to a historic low of 0.50% a few months ago. A reduction of a further 0.25% is already forecasted by several analysts. The bigger benefit would come if the euro falls as a result of this move.

Probability of occurrence: medium-high.

Potential problem: a significant slide in EUR/USD.

3. A fresh round of LTRO: The ECB built two huge credit operations, worth a total of around EUR 1 trillion in late 201. By giving cheap loans, the ECB provided liquidity in order for banks to carry on lending activities and revitalize the economy. Lending additional money to banks could possibly help combat the tighter credit rating conditions that weigh within the euro zone.

Probability of occurrence: Medium.

4. Set an adverse deposit rate: Now this option is the “nuclear option” that ECB has proposed in the past. The swiss franc had a negative yield in the past which helped buoy the currency. How is it done – basically this is a penalty for banks depositing money with the ECB, with the hopes that the bank will instead lend the money to businesses and consumers. This is a an extreme move that may cause serious outflows out of your euro-zone, which Draghi does not want to do.

Probability of occurrence: Low

The most likely scenario in our view is some hint of monetary stimulus which we expect to lead to a further decline in the EUR against the USD. We assign a chance of this occurring of about 75%.



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