ECB Statement: To QE or Not To QE?

Will the ECB drop a bombshell on the forex market this week? Or will their monetary policy statement be a non-event? Here’s what we can expect from this potential market-mover:

Expectations are running high for President Mario Draghi and his men to announce actual quantitative easing this week, as the euro zone has been thrown one curveball after another. It appears that the ECB’s previous stimulus efforts haven’t been bearing much fruit since the region has barely shown economic progress in the past months.

It doesn’t help that the slump in oil prices has made the euro zone’s battle against deflation much more difficult, with the region posting a 0.2% decline in headline inflation for December and a meager 0.7% core CPI reading. Inflationary pressures are projected to keep weakening, which suggests that the ECB might use its monetary policy tools in order to maintain price stability.

Apart from that, ECB officials have been reiterating that they are keen to bring their balance sheet back to its 2012 levels. This means that the central bank might have to inject roughly 1 trillion EUR into the system by printing more money or implementing bond purchases sooner or later.

And if the SNB’s surprise announcement last week is any indication, the ECB might be prepared to act now. Recall that SNB head Thomas Jordan decided to remove the franc peg, as it would be more costly to defend the EUR/CHF floor at 1.2000 should the ECB decide to dole out QE this week. Does Jordan know something about the ECB’s plans that we don’t?

Of course all these factors have already led most forex market participants to price in expectations of actual quantitative easing from the ECB, which opens up the possibility of a “buy the rumor, sell the news” scenario during the actual event. After all, the euro has been depreciating continuously for months and may be due for a bounce on profit-taking.

Some analysts say that the euro’s reaction could hinge on the size of the ECB’s easing program, as bond-buying estimates range from 500 billion EUR to 2 trillion EUR. A conservative approach (500-750 billion EUR) might even lead to a euro rally since this range has been widely anticipated. Meanwhile, any figure north of 1 trillion EUR could still spark a long-term euro selloff.