Draghi Open to Negative Deposit Rate Trumps Rate Cut to Drive Euro Lower

ECB President Draghi confirmed the decisions made today to cut the main refi rate by 25 bp to 50 bp and cut the lending rate, the ceiling of its rate corridor, by 50 bp. Most importantly he seemed more open to a cut in the deposit rate and it is this that drove the euro lower after trading choppily initially. 

Draghi emphasized the decline in price pressures. Although unemployment is at record highs above 12%, Draghi argues that structural reforms are needed to address that; i.e, it is not an appropriate aim of monetary policy-unlike how the Federal Reserve sees things. Draghi indicated the discussions were underway about ABS (of non-financial businesses) collateral, which reveals the direct the ECB is moving regarding improving the access to credit for small and medium sized enterprises. 

Lastly Draghi also announced that the full allotment of liquidity will be remain at least until the middle of next year. This is a way to manage expectations and essentially commits the ECB to easy policy for the next year. 

Draghi's risk assessment was a bit surprising. That there are downside risks to the forecasts that call for a stronger economic performance in H2 is not the issue. Rather, Draghi's assessment that inflation risks are balanced and linking some upside risk to commodity prices seems misplaced. The flash April euro area CPI was 1.2%, M3 is sluggish and private sector lending has fallen. 

Given the recent surveys from Germany, the poor performance of France and the Netherlands, Draghi had little choice but to recognize that the economic weakness is not confined to the periphery. Draghi clearly kept the door open to additional action. He calls on the national governments to pursue structural reforms. 

That they move too slowly if at all was cited by Draghi as part of the downside economic risks. Although Draghi reiterated that the ECB was technically prepared for a cut in the deposit rate (now zero). In the past, he had warned about the potential negative consequences. Now he is saying has an open mind.