Even though a deposit rate cut by the ECB was fully priced into the market, the central bank’s lack of more aggressive policy action served to boost the euro. Many were expecting more than a 10 bps cut in the deposit rate (from -20 bps to -30 bps), a token extension of its bond-buying program and investment of principal repayments. As a result, a wave of short covering pushed the euro up against 15 of its 16 peer currencies. (Versus the US dollar, the euro traded from a low of 1.0524 to an intraday high of 1.0929—a 7-month high—and the biggest rally since 2009.)
Post-Policy Announcement Move of the EUR vs. USD
While some of these gains dissipated over the next day, it’s clear that the ECB disappointed market participants with Thursday’s announcement. ECB President Draghi had said the ECB is “willing and able” to act further if needed, but tried to more forcefully to make his case on Friday, by stating that “there cannot be any limit to how far we are willing to deploy our instruments, within our mandate,” adding that “QE is here to stay.”
The purchase program will remain at its current rate of 60 billion euros per month, but will be broadened to include local and regional debt and will continue for an additional six months (until at least March 2017). With inflation having remained at just 0.1% in November (and even core inflation declining to a 0.9% rate), increasing the size as well as the duration of the program would have been in line with Draghi’s earlier hints of aggressive stimulus. Describing the cut in the deposit rate as “adequate,” Draghi left investors disappointed—particularly in light of new inflation forecasts for both 2016 and 2017 that were revised slightly lower.