Draghi didn’t disappoint

Head of the European Central Bank Mario Draghi yesterday revealed details of a new bond-buying programme intended to tackle the eurozone’s debt crisis. He claimed the system would provide a “fully effective backstop” and that the euro was “irreversible”. The ECB’s target was to cut the borrowing costs of debt-burdened eurozone members by purchasing their bonds and the effects were seen immediately as Spain’s borrowing costs fell sharply after the announcement.

Draghi stated the ECB would commence ‘Outright Monetary Transactions’, or OMTs to treat “severe distortions” in sovereign bond markets. He maintained that the ECB was “strictly within our mandate” of preserving financial stability, but repeated the requirement for leaders to continue with their deficit reduction plans and labour market reforms.  Furthermore he claimed the ECB’s actions came in response to eurozone economic contraction in 2012, with sustained weakness expected to continue into 2013. 

The eurozone economy is expected to shrink by 0.4% in 2012 and grow by 0.5% in 2013, with inflation rising to 2.6%. The new programme will start alongside the European Financial Stability Facility or European Stability Mechanism programme.  In other words, countries will still have to request a bailout before the OMTs are triggered.  Market reaction so far has been pretty positive to the news especially in Asia overnight with the Nikkei and Hang Seng up 2.2% and 2.4% respectively.

In other news the Bank of England maintained interest rates and quantitative easing (QE) on hold yesterday. This came alongside the news that the OECD slashed growth forecasts for the UK who expect the economy to contract by 0.7% from 0.5% predicted in May. Sterling remained resilient following the announcement and has since rallied overnight currently trading at 1.5981 and flirting with the key psychological level of 1.60 against the Dollar.  We saw some volatility against the Euro yesterday during the ECB press conference but it now sits where we started yesterday in the low 1.26s.

Markets will now turn their attention to the Non-farm payrolls this afternoon in the US. The firmer than expected ADP report, which revealed 201k increase in the private sector jobs in August, boosts the outlook for today’s number. The market expects the non-farm payroll report to show 127k new jobs created in August with the unemployment rate to remain at 8.3%.  Whilst the employment element of ISM manufacturing fell from 52.0 to 51.6 in August, the progress in employment part of ISM services, which jumped from 49.3 to 53.8 was promising.  An upside surprise in today’s NFP is possible and in that case, the Japanese yen would likely be sold off further.

Report by Philip Ryan