Stimulus Package of European Central Bank

The European Central Bank (ECB) rolled out a massive stimulus package on Thursday. The actions not only reflect the desperation but also the resolve to boost the Eurozone economy and mitigate the risk of recession.

The announcement could be summed up in five steps and the combination drove EUR/USD to a low of 1.0927. The ECB also lowered its inflation and GDP forecasts for 2019 and 2020.

According to ECB President Draghi, these actions were prompted by 3 elements - a more marked slowdown in the Eurozone economy, the persistence of downside risks and their baseline scenarios that included downward revisions to all of their inflation projections. However, instead of extending its losses below 1.09, EUR/USD reversed sharply after Draghi's press conference and traded well above 1.10.

ECB Stimulus Package

1. Interest rates cut by 10bp to -0.5%
2. ECB dropped their calendar guidance
3. Restarted bond purchases
4. Changed their TLTRO rate to eliminate 10bp spread and provide more favorable bank lending conditions
5. Introduced a 2 tier reserve system that would exempt part of bank holdings from negative rates

One can find at least three reasons for the turnaround in the EUR. First and foremost, ECB President Draghi called on governments to go big with fiscal stimulus. He said "reform implementation must be stepped but substantially" to raise long term growth potential. The central bank has long felt that monetary stimulus alone won't be enough and by doubling down on a massive stimulus package, he's put the ball in their court. With his bold curtain call, Draghi took the problem of low growth seriously and said the governments would have to act.

Euro also u-turned on the hope that the stimulus will work as the promise of unending QE should go a long way in boosting the economy. The market believes that all of this guarantees a rate cut from the Federal Reserve next week and the prospect of Fed easing is bullish for EUR/USD.

EUR Recovery

1. ECB lays on fiscal stimulus pressure
2. Unending QE will have positive impact on the economy
3. ECB actions guarantee Fed cut next week

Looking ahead, analysts believe that the actions could mark a bottom for EUR/USD. One of the biggest near term risks for the EUR was looming. Christine Lagarde takes over as head of the ECB in November and like Draghi, she's a big supporter of fiscal stimulus. The difference between Draghi and Lagarde is that she's more politically rooted and could have a greater influence on Germany.

If the Eurozone existed in a silo, analysts would declare ECB move a sustainable bottom for euro. However, US President Trump made it very clear that he's not happy the ECB is "weakening the euro," so we need to be mindful of the risks including retaliatory actions from the US (including tariffs) and Brexit.