Daily Insight
Group Economics Macro & Financial Markets Research
28 October 2015
ECB to cut deposit rate Nick Kounis Head Macro & Financial Markets Research Tel: +31 20 343 5618 nick.kounis@nl.abnamro.com
We now expect the ECB to cut its deposit rate by 10bp to -0.3%…
…while it should leave the door open for more
Swedish experience shows deeply negative rates can be effective
It would take a bigger than 10bp cut for the short end to rally further
Kim Liu Senior Fixed Income Strategist Tel: +31 20 343 4669 kim.liu@nl.abnamro.com
ECB likely to reduce deposit rate further Following last week’s ECB press conference, we now expect the central bank to cut its deposit rate further. This would be on top of the increase and extension of QE that was already in our base scenario. ECB President Draghi not only made it clear that more stimulus was on the cards, but also that a policy rate cut was also a possibility, something he had previously ruled out. Mr. Draghi would not have been so explicit if he did not think that a rate cut was very likely. We now expect a 10bp reduction in the deposit rate, which would take it to -0.3%. In addition, it seems likely that it will leave the door wide open to do more if necessary. This will depend crucially on whether EUR/USD remains at the lower level it has settled at since the press conference. One potential scenario is that if the FOMC signals a rate hike delay to 2016, that this could lead to renewed upward pressure on EUR/USD, adding to the case for the ECB to cut the deposit rate by more than currently expected. We also expect a 5bp cut in the refi rate, taking it to zero.
Swedish lessons for the ECB The ECB had previously announced that policy rates had reached the lower bound, and that further monetary stimulus would come solely from adjustments to its QE programmes. The Governing Council’s shift reflects the increased downside risks to inflation as well as the experience of other countries. For instance, since around the middle of last year, the Riksbank has reduced its deposit rate from 0% to -1.1%. What are the lessons of the Swedish experience? Deposit rate cuts drive down the currency The first clear lesson is that increasingly negative deposit rate has been successful in pushing down the currency (see chart below). The krona trade-weighted index has fallen by around 10% during the period of deposit rate cut from 0% to -1.1%. This is despite expectations of and actual QE in the eurozone over this period. So from this perspective, the policy has been successful.
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Daily Insight - ECB to cut deposit rate - 28 October 2015
Riksbank deposit rate and trade-weighted exchange rate %
Index
1.5
92 90 88 86 84 82 80 78 76
1.0 0.5 0.0 -0.5 -1.0 -1.5 12
13
14
15
Riksbank deposit rate (lhs) Krona effective exchange rate (rhs) Source: Thomson Reuters Datastream, ABN AMRO Group Economics
Bank lending rates fall more than deposit rates The second lesson from Sweden’s experience is that bank margins get squeezed. Bank lending rates tend to fall more than deposit rates, perhaps reflecting that banks are reluctant to push retail deposit rates into negative territory. For instance, the 110bp deposit rate cut led to a 80bp fall in bank lending rates (weighted average of companies and households) but only a 30bp decline in bank deposit rates. Deposit rates remain marginally positive on average. An extra consideration for the eurozone is that QE creates a lot of extra liquidity, that banks then have to hold at the ECB, which is also an extra cost. Nevertheless, Sweden’s experience also shows that bank credit growth continuing to expand at robust rates, so there does not seem to have been an adverse effect on the real economy. Market prices 10bps deposit rate cut in as a done deal Financial markets have fully priced in a 10bp deposit rate cut. Assuming that the EONIA rate will remain around 5bp above the deposit rate, we can use EONIA forward rates to calculate how much is priced in. Before the ECB meeting, the probability of a 10bp cut was seen at 30% by year end. Directly after the press conference, the probability rose sharply to 60% by year end, while it currently stands at more than 90%. It is fully-priced to occur by June of next year. ECB would need to cut by more than 10bp for short end to rally further Given this, we see limited room for the short-end of the yield curve to perform further. Before the ECB meeting, 2y German government bond yields were only slightly more negative than the ECB’s deposit rate (at -25bp). After the ECB meeting, 2y German sovereign bonds rallied further and they are now trading at around -34bp. Given these levels, we judge that it would take a deposit rate cut of more than 10bp (or a strong signal of a follow-up rate cut) for both forward EONIA rates and short maturing government bonds to rally further. Turning to currencies, we have slightly reduced end of year EUR/USD forecast, given the coming deposit rate cut (to 1.10 from 1.12). Our forecast for the end of next year remains at 1.00.
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Daily Insight - ECB to cut deposit rate - 28 October 2015
Day
Date
Time
Country
Key Economic Indicators and Events
Monday Monday Monday Monday Monday Monday
26/10/2015 26/10/2015 26/10/2015 26/10/2015 26/10/2015 26/10/2015
09:00:00 06:30:00 09:00:00 10:00:00 15:00:00 15:45:00
CH NL CH DE US EC
Total Sight Deposits bn Producer confidence manufacturing - index Total Sight Deposits bn Ifo - business climate - index New homes sold - % mom ECB announces weekly QE details
Tuesday Tuesday Tuesday Tuesday Tuesday
27/10/2015 27/10/2015 27/10/2015 27/10/2015 27/10/2015
10:00:00 10:30:00 13:30:00 14:00:00 15:00:00
EC GB US US US
M3 growth - % yoy GDP - % qoq New durable goods orders - % mom S&P/Case Shiller house price index Conference Board cons. confidence - index
Wednesday Wednesday Wednesday Wednesday
28/10/2015 28/10/2015 28/10/2015 28/10/2015
09:30:00 19:00:00 19:00:00 21:00:00
SE US US NZ
Thursday Thursday Thursday Thursday Thursday Thursday Thursday Thursday
29/10/2015 29/10/2015 29/10/2015 29/10/2015 29/10/2015 29/10/2015 29/10/2015 29/10/2015
00:50:00 09:55:00 09:55:00 11:00:00 13:30:00 14:00:00 15:00:00 20:00:00
Friday Friday Friday Friday Friday Friday Friday Friday Friday Friday Friday
30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015 30/10/2015
00:30:00 00:30:00 11:00:00 11:00:00 11:00:00 11:30:00 13:30:00 13:30:00 14:45:00 15:00:00
Period
Latest outcome
Consensus
ABN AMRO
Oct
467b 2.4
Oct Sep
108.2 -11.5
107.9 -0.6
108.1 0.1
Sep 3Q A Sep Aug Oct
4.9 0.5 -1.2 0.1 97.6
5.0 0.6 -1.4 0.2 102.5
-1.5 103.0
Policy rate - % Policy rate - % (lower bound) Policy rate - % (upper bound) Policy rate - %
Oct 28 Oct 28 Oct 28 Oct 29
-0.35 0.00 0.25 2.75
0.00 0.25 2.68
-0.35 0.00 0.25 2.75
JP DE DE EC US DE US MX
Industrial production - % mom Unemployment - % Unemployment change - thousands Economic sentiment monitor - index GDP - % qoq annualised CPI - % yoy Pending home sales - % mom Policy rate - %
Sep P Oct Oct Oct 3Q A Oct P Sep Oct 29
-1.2 6.4 2 105.6 3.9 0.0 -1.4 3.0
-0.7 6.4 -4.1 105.0 1.8 0.2 0.5 3.0
JP JP JP EC EC EC RU US US US US
Policy rate - % Unemployment - % CPI - % yoy Core inflation - % yoy CPI - % yoy Unemployment - % Key rate % PCE deflator core - % mom PCE deflator core - % yoy Chicago Fed - business confidence - index Univ. of Michigan cons. confidence - index
Oct 30 Sep Sep Oct A Oct Sep Oct 30 Sep Sep Oct Oct F
80.0 3.40 0.2 0.9 -0.1 11.0 11.0 0.11 1.3 48.7 92.1
3.40 0.0 1.0 0.0 11.0 10.8 0.17 1.4 49.6 92.7
105.1 2.1 0.1 0.5
10.9 10.5
93.0
Source: Bloomberg, Reuters, ABN AMRO Group Economics (we provide own forecasts only for selected k ey variables and events)
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