Three central banks acted within a short time of each other to provide yet more monetary stimulus. However, the European Central Bank’s (ECB) 25 bps cut in its refi rate and deposit rate, China’s central bank, PBoC’s cut in interest rates and an additional GBP 50 billion of asset purchases by the Bank of England have failed to stimulate markets. This is a worrying development for policy makers especially as the drug of monetary stimulus has been a major factor spurring equity markets and risk assets since the global financial crisis began in 2008.
The lack of positive momentum emanating from the policy easing by central banks yesterday reflects the reality that the efficacy of further easing has now become very limited. Will a quarter percent rate cut from the ECB or yet another round of asset purchases from the BoE really make a difference at a time when core bond yields are already at extremely low levels and the demand for credit globally is very weak? Moreover, are policy makers really addressing the underlying problems in the Eurozone or elsewhere? I think the answers are obvious.
The same argument applies to the Fed if it was to embark on a third round of quantitative easing. Admittedly more Fed QE could weaken the USD and boost equities but would it really have a lasting impact? In any case I don’t think the Fed is on the verge of more QE following the recent extension of ‘Operation Twist’ which itself will do little more than have a psychological impact on markets. Today’s release of the June jobs report could give some further impetus to QE expectations if it comes in weak but I doubt this will occur.
One casualty of the cut in ECB rates was the EUR which dropped sharply, having not only given up its post EU Summit gains over recent days but extending its losses even further. This is perhaps an odd reaction considering that a rate cut was widely expected. ECB President Draghi’s warnings about the path ahead will have played negatively on the currency as well expectations of more stronger easing in the months ahead perhaps involving ECB QE.
I still stick to the view that European policy makers have at least put a short term floor under the EUR in the wake of the decisions at the EU Summit suggesting that further downside will be limited, with the 2012 low around 1.2288 likely to act as a short term floor for EUR/USD. Nonetheless, with many details of the plans announced in the Summit yet to be ironed out and implementation risks running very high a degree of market caution should be expected.