Snapshot - Strategy & economics

Draghi readies bazooka, but will it fire blanks?

The European Central Bank has inched towards additional stimulus, but its boost is likely to be marginal at best.

25/07/2019

Azad Zangana

Azad Zangana

Senior European Economist and Strategist

Schroders

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At today’s monetary policy meeting, the European Central Bank (ECB) kept all key interest rates and policies unchanged.

Growing concerns over the weakness in the manufacturing sector and persistently low inflation had prompted several governing council members to hint at further easing in recent speeches. However, the only real change today was a small tweak to the ECB’s forward guidance on interest rates.

Previously, the ECB’s guidance had suggested that interest rates would remain at present levels at least until the middle of next year. The latest guidance has added the possibility of lower interest rates during this period – a strong suggestion that a cut to the deposit rate could follow.

Focus will now turn to the ECB’s next meeting in September, which coincides with the next ECB forecast update. According to President Draghi, “...if the medium-term inflation outlook continues to fall short of our aim, the Governing Council is determined to act, in line with its commitment to symmetry in the inflation aim.” Therefore, unless there is a sharp jump in inflation, or something that would suggest an imminent rise in inflation (spike up in oil prices or big depreciation in the euro), then the ECB is very likely to add further stimulus.

The big question is whether lower policy interest rates and potentially more quantitative easing would have much of a positive impact on the real economy? After all, the deposit rate in the eurozone is already negative, while banks are awash with liquidity. Further interest rate cuts will hurt banking profitability, which is unlikely to incentivise further lending. Meanwhile, with government bond yields near a record low, it is hard to justify the need for more bond purchases.

As we approach the end of Draghi’s term as president of the ECB, it appears that he is keen to exit with a bang. However, does Draghi still have his huge policy bazooka, or has he been left with holding a weak water pistol? We think Draghi’s actions are squarely aimed at stopping the euro from appreciating against the US dollar; however, it appears that he is failing in his endeavour.

This article is issued by Cazenove Capital which is part of the Schroder Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Nothing in this document should be deemed to constitute the provision of financial, investment or other professional advice in any way. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested. This document may include forward-looking statements that are based upon our current opinions, expectations and projections. We undertake no obligation to update or revise any forward-looking statements. Actual results could differ materially from those anticipated in the forward-looking statements. All data contained within this document is sourced from Cazenove Capital unless otherwise stated.

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