Eurozone At Risk If ECB Cuts Rates

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Eurozone At Risk If ECB Cuts Rates

Eurozone At Risk If ECB Cuts Rates

On Thursday, April 3, the European central Bank (ECB) is set to report its latest interest rate decision. Shortly after the decision is announced, ECB President Mario Draghi will take to the stage to deliver the rate’s accompanying statement. Both events are likely to spark considerable volatility in the Euro crosses, so here’s what you need to know.  

Forefront in the minds of traders at present is the potential for a rate cut to help avoid deflation in the Eurozone. Monday’s data revealed core CPI as expected at 0.8%, while the raw data missed expectations, reported at 0.5% versus a consensus forecast of 0.6%. The threat of deflation may be enough to warrant a rate cut, from the already all-time low of 0.5% to a never before seen 0%.

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Having barely survived an economic crisis that nearly broke the Eurozone apart, the ECB will be keen to stimulate economic activity as quickly as possible. There are however, a number of dangers associated with an effective zero rate. The key risk to individuals is that of an interest rate shock once rates return to normal. Low rates incentivize borrowing, and many fringe consumers borrow at the limits of the income. In other words, they can afford the low rate repayments on things like mortgages or high-end loans, but when the ECB returns rates to normal, those with variable rate plans will not be able to afford repayments. This can lead to default, which would tighten credit lines and could spark an economic contraction.

Having said this, while this danger looms, the ECB will likely be more interested in short term stimulus. A cut will undoubtedly weaken the Euro, and a dovish statement that hints at other stimulus methods would compound the bearish bias and may be enough to reverse the long term uptrend across many of the Euro pairs. 

To contact the reporter of this story; Samuel Rae at Samuel@forexminute.com