RANsquawk Preview: ECB Rate Decision 3rd December 2015

• ECB’s rates are currently: Refinancing 0.05%, Deposit -0.20% and Marginal Lending 0.30%

• General consensus among analysts is that the ECB are most likely to cut their deposit rate by 10bps and increase the size and length of their QE program

• The reaction to any possible announcement in financial markets may not be as clear cut as in the past given the variety of tools being considered

In arguably the most important ECB meeting since the introduction of QE, Draghi and Co. are expected by the majority of analysts to act further, with the most likely actions including a cut to the deposit rate and an increase in the Quantitative Easing program. Signalling from the central bank, and particularly Draghi himself over the past month has heavily indicated further stimulus, with Draghi notably saying that `the ECB will do what it needs to in order to raise inflation, as quickly as possible`.

In terms of the rate decision itself, the rates in the Eurozone are currently: Refinancing 0.05%, Deposit -0.20% and Marginal Lending 0.30% and while the general consensus among Wall St. banks is that the Deposit rate will be cut by 10bps, given that President Draghi has a history of over-delivering some suggest that generally they would not be surprised by a deeper than 10bps cut. Analysts at HSBC note that a cut to the deposit rate could be balanced out through an increase in the reserve threshold after which banks have to pay.

As well as a potential rate cut, other possible policy actions in focus include an extension in length or an expansion in size to the current quantitative easing program, with consensus suggesting this could be by around EUR 10-15bln and by 6 month to a year. Also in terms of QE, there have been suggestions that the ECB could widen the program to include regional or municipal bonds. Another potential option that has been mentioned by ECB sources would be a tiered system whereby staggered charges would be used on banks hoarding cash. For a full breakdown of potential options available to the ECB, see below.

Analysts at JP Morgan note that 30% of the JPM EMU government bond index currently have a negative yield, while suggesting that the touted 2 tiered system is a more likely action by the ECB than the inclusion of municipal and regional bonds or the purchase of bank loans at risk of non-payment, while noting that anything more than a 10bps cut on the deposit rate will see an overly onerous tax on core European banks.

Market Reaction

The market reaction will very much depend on to what extent the ECB are able to over-deliver, with the market already anticipating action from the central bank. If the ECB’s actions are considered more dovish than anticipated, traditionally there would a possibility of a fall in EUR, a flattening of the Euribor curve and be supportive for fixed income products as well as for equities, while if Draghi fails to surprise the market, the inverse could be seen. However it is worth noting that given the rather extreme nature of some of the possible actions, reactions may not be as straight forward as in the past. Most notably, financials are at risk of struggling to cope with the impact of negative rates, while French and German banks may suffer as a consequence of a staggered charge on banks hoarding cash.