Forecast Revision: Geopolitical risks and higher liquidity

Euro Area – Russia: Sanctions and Reprisals
ECB- Meeting: Heightened geopolitical risks, ABS purchases very likely
Forecast Revision: Geopolitical risks and higher liquidity

Conflict with Russia

This week the conflict between Russia and the western countries intensified. The sanctions of the latter compass of a financing ban on Russian banks, restrictions on specific persons and enterprises, as well as export restrictions on technology or goods used in the oil production and export bans on military equipment. Contracts which are already existent will nevertheless be fulfilled.
Trade in the goods concerned is relatively low and as such the magnitude of the direct consequences on the economic situation of the euro area. Though, the indirect implications can hardly be estimated. These comprise in a continuing slowdown of the Russian economy and a broad decline in demand accordingly. In the euro area the enterprises and the consumers will face uncertainty, which can also result in a slower domestic demand.

Russia reacted on the sanctions imposed by western countries by declaring an import ban on several goods, primarily agricultural nature. The immediate impact of these bans on European countries vary substantially, the aggregated value is nevertheless marginal. However, here too the question of the indirect effects, like falling prices of the products concerned, arises.

As the end of the crisis is not in sight and further sanctions cannot be ruled out, the estimation of the impact is difficult. Russia considers a possible ban on overflight rights for western airlines. In such a situation, a backlash from the western countries would most likely follow.

ECB-Monetary Council Meeting

This week’s ECB monetary council meeting brought close to no news concerning the monetary stance of the central bank and little change to the assessment of the current economic conditions. Though, we want to highlight three outcomes of the press conference:

Heightened geopolitical risks contributed more to the downside risk of the Eurozone economy than a few weeks ago. Draghi mentioned several conflicts, but the conflict between Russia and Western countries clearly had the most negative potential for the Eurozone going forward. In the Q&A session it became more obvious that an ABS purchase program in the not too distant future is very likely. Draghi announced that a consultant will be hired to design the ABS purchasing program. Asked by journalist about the likelihood Draghi said, that they would not invest the work unless they wanted to do it. Finally, with a view on the EURUSD dollar exchange rate, Draghi mentioned twice that the monetary policies in the US and in the Eurozone had started to diverge and would continue to do so for a considerable time. This statement clearly, indicates that the ECB President expects a weaker Euro.

New capital market forecasts

The development of the US- labor market suggests to us a faster recovery than currently expected by markets. We now forecast the first interest rate hike in March 2015, which will be six month after the end of the bond purchases in October.

Because of the global incidents and their implications on sovereign bonds, and the presumably massive liquidity injection of the ECB through the TLTRO operations, we reduced our forecasts for the yields in the US and Germany. The forecasts until the end of the year 2014 are more affected than those for the first half-year of 2015, and the ones for German bonds more than for the US Treasuries.

Our changed forecast for US short term rates, resulted also in an anticipated faster firming of the US-Dollar over the Euro.