Currency Briefing: ECB’s Praet leaves All options available

on Nov 14, 2013
Updated: Oct 21, 2019
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The euro recuperated against the dollar on late Wednesday, as investors hurried to buy the currency after it was hit lower by comments from a top ECB official.

Earlier in the day, the euro extended losses in a sudden move after Peter Praet, a member of the ECB’s executive board, told The WSJ the central bank would “take all measures necessary” to lift inflation closer to its target, including cutting rates below zero or purchasing assets from banks (the strongest and most controversial option) in order to diminish borrowing costs in the private sector.

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The ECB could do more if necessary, Mr. Praet said. “On standard measures, interest rates, we still have room and that would also include the deposit facility,” he said.
The central bank’s deposit rate has been set at zero since July 2012 in order to fight the sovereign debt crisis that drove the euro region into recession. Making it negative would effectively impose a fee on commercial banks that park funds at the ECB.

Another possible central bank policy measure is to make cash available to financial institutions, as it has in the past with cheap, long-term loans, known as LTROs, Mr. Praet said.
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Annual inflation in the euro zone slowed to 0.7 per cent in October, far below the central bank’s target of just below 2 per cent over the medium term. Low inflation and mixed signals on the health of the economy have raised expectations for the ECB to act and on Nov 7, the ECB reduced its key lending rate to 0.25 per cent, an historical record low. Immediately after the ECB rate decision, the single currency lost ground, its downward move since hitting a nearly two-year high above $1.3800 on Oct 25 leading to approximately 3 per cent having been shed since.

In the wake of Mr. Praet’s comments, the shared currency weakened to as low as $1.3391 from $1.3455. The market reaction was sudden, even if Mr. Praet’s remarks were published much earlier. But later in the day, the euro regained its sang-froid to trade as high as $1.3489.
“The selloff was a bit overdone, and investors saw an opportunity.” Said Omer Esiner, chief market analyst at Commonwealth Foreign Exchange. “It’s still significant, however, that the ECB is even talking about negative interest rates, even if they are a long way away.”

Mr. Praet’s remarks were a sign the central bank may undertake further steps, even as the Federal Reserve appears likely to scale back its own $85 billion-per-month bond-buying stimulus program in the coming months, a prospect that has boosted the dollar. An easing monetary policy from the part of ECB would additionally weaken the euro as it will further loose its appeal.
“Negative interest rates scare the market,” said Marc Chandler, a strategist at Brown Brothers Harriman in New York. “No major central bank has adopted negative interest rates, and the possible unforeseen consequences make investors uncomfortable.”
Most economists and investors believe the ECB will not make a sudden shift to negative deposit rates, but will instead prefer to stimulate the economy through a series of less-dramatic steps, such as further lowering of the refinancing benchmark rate or by cutting minimum reserve requirements for banks, Mr. Chandler said. The central bank has for the last time cut the minimum reserve ratio for banks from 2 to 1 per cent in January 2012, an action that was believed to free up about €100 billion in additional liquidity. In the case that the ECB decides to take sudden and aggressive steps, the euro could be hurt considerably more than at present, according to analysts.
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Prices can go up and down meaning you can get back less than you invest. This is not advice. Dealing services provided by Hargreaves Lansdown.
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