Draghi Sticks to Guns, Disappointing the Doves

ECB President rebuffed calls for a reconsideration of policy in light of the disappointing string of economic data.  Bunds have sold off and the euro firmed in the initial reaction to Draghi’s press conference. 

He acknowledged that the economic data have come in “somewhat weaker” than expected, but consistent with the ECB’s outlook.  Draghi suggested that the weaker momentum is not a prelude to a downturn.  The risks remained balanced.  The ECB will end its purchases in December, though the ECB meeting in December will confirm it.   The bar to continue it is very high.   The drag from the German car industry he noted was a Q3 event, not Q4 (deadline of new emissions standard was September 1 and apparently very disruptive).   

Like last month, Draghi pins his economic optimism on the “progressive tightening of the labor market, and “negotiated wage increases.”  The risks are the obvious:  Bexit, trade, and Italy.  On Italy, he also sounded optimistic that an agreement can be reached.  Remember Italy has three weeks to respond to the EC’s unprecedented ask that it modify its initial budget proposals, but that ultimately sanctions can only be implemented on actual performance, not projections, which makes it really a 2020 story, unless, of course, investors do not wait.  .  

Draghi also reiterated his call for structural reforms and the creation of fiscal cushions. At the same time, he seemed to emphasize that monetary policy will stay very accommodative even after the new net asset purchases cease.   Peak divergence still lies ahead.  

Draghi suggested that the survey indicators are still above long-term averages, but that does not hold for the composite flash October PMI.  The risk, as we see it, is that what Draghi calls the weaker momentum continues into the end of the year and this prompts the ECB’s staff to lower its growth forecasts again (did so in September).  The ECB will still finish its asset purchases in December.  What could the ECB do to provide more monetary support, if needed?  Draghi hinted at one possible (likely?) course–new targeted long-term repo operations–which a couple central bankers suggested.  Although the ECB said that neither continuing QE nor Spanish banks were discussed, apparently, a review of the tools it can use was addressed, at least in a preliminary manner.  

The euro traded to new session highs just shy of $1.1435, but sellers were drawn in, and the euro continues to consolidate in its recent trough.  Draghi’s optimism did seem to help Italian bonds, where the yield of the 10-year benchmark is off 10 bp (~3.50%, to leave it up only a couple basis points on the week. 


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