ECB Targeted LTRO: Ain't Buying It!

The ECB’s targeted LTRO (long-term refinancing operations) turned out to be a major flop as loan demand turned out much weaker than expected. ECB Governor Draghi and his men offered 400 billion EUR in ultra-cheap credit in order to spur lending, with analysts expecting to see a take-up of roughly 150 billion EUR, yet banks only bought 82.6 billion EUR worth of loans.

Bear in mind that this is just the first part of the ECB’s planned targeted LTRO for the year, as the central bank is set on doling out another round of cheap loans in December. This monetary policy move should supplement the ECB’s decision to cut several interest rates twice this year in an effort to boost growth and inflation in the region. This operation would allow banks to borrow from the ECB at very low rates as long as they meet targets for lending to businesses. Sounds good, right?

Apparently for European banks, it ain’t good enough! The bleak loan turnout for the targeted LTRO indicates that markets just aren’t buying the ECB’s attempts to shore up its balance sheet and ward off deflation, building the case for actual QE from the central bank.

Inflation currently stands at 0.4% in the euro zone, miles away from the ECB’s 2% target. To make things worse, the euro zone is facing more headwinds, as the recent sanctions imposed by Russia are likely to weigh on its feeble economic growth.

As Draghi revealed in the latest ECB rate statement, policymakers are still looking into purchases of asset-backed securities as their next policy move. While the actual size of the program hasn’t been specified yet, analysts believe that the weak targeted LTRO take-up would force the ECB to set a large amount of ABS purchases.

For now, ECB policymakers are crossing their fingers that the next loan auctions would see stronger demand. After all, European banks are still uneasy about increasing borrowing for now, as the European Banking Authority stress test results are yet to be released. With these regulatory requirements out of the way by December, banks might be more willing to take advantage of the next set of targeted LTRO.

If European banks still ain’t buying these cheap loans from the ECB then, the euro might be in for a world full of hurt in the forex market, particularly against the U.S. dollar. After all, the Federal Reserve is moving closer to tightening monetary policy whether Yellen admits it or not. Where do you see EUR/USD trading at the end of this year?