Head of Macroeconomic Research
Summary: Contrary to market expectations, the ECB refrained from cutting further its deposit rate and introduced a package aimed at keeping liquidity and credit flowing with a special focus on the private sector. Most of the measures were smart and flexible, but market reaction was initially very negative, notably due to the poor performance of ECB's Lagarde during the press conference.
What are the main measures?
What is the market reaction?
The initial market reaction was very negative. Ahead of the meeting, the market priced a 12bp cut and was certainly disappointed the ECB did not cut rate. The poor performance of ECB’s Lagarde increased market turmoil. The following sentence backfired: “We are not here to close spreads, there are other tools and other actors to deal with these issues”. In her press conference, Lagarde seemed to try to distance herself from Draghi’s “Whatever it takes”, which has certainly accentuated market tensions. Most European indexes lost between 8% to 10%. The EuroStoxx Banks was down 12%, which is surprising considering the announcement of loosen banking regulation. BTP Futures were also down sharply, which is, in our view, a clear sign of illiquidity in the market.
What are the remaining questions?
It is obvious that monetary policy is not the ideal tool to fight coronavirus outbreak. Rightly, ECB’s Lagarde mentioned the need for EU member states to implement a decisive fiscal stimulus to help SMEs handling the negative economic consequences of COVID-19 and quarantines. The ECB has done the job by making sure to provide enough liquidity to the markets in order to avoid a tightening in financial conditions. Monetary policy can certainly offer a very temporary relief, but it won’t be enough to fight the recession into which the euro area seems to have fallen this month. What we have recently learnt from Asia is the quickness in policy response is essential in order to avoid the contagion and contain as fast as possible market panic. So far, the Eurozone fiscal response has clearly been insufficient, which means that the crisis may last longer in the euro area than in other parts of the world and recovery will probably be very gradual.
2024: The wasted year
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
