Derek Halpenny, European Head of GMR at MUFG, suggests that the euro is also deriving support from the real yield spread between the euro-zone and the US as well and hence the pressure for aggressive easing is building ahead of the next ECB meeting on 10th March. Key Quotes “For understandable reasons (December disappointment) market participants are sceptical and fear the ECB may well undershoot expectations again – hence current expectations appear a bit more contained on this occasion. We do note with some interest the monthly report from the Bundesbank, released on Monday, which highlighted the fact that by “mechanically” plugging in the 30% drop in crude oil since its last inflation forecasts were made and assuming an average crude oil price of $36 pbl this year and $45 pbl next year means inflation this year in Germany would be 0.3% instead of 1.1% and 1.7% in 2017 instead of 2.0%. The Bundesbank expressed concern over oil prices being lower for longer which would then be tied to “tangibly reduced inflation expectations and markedly dampened wage growth”. If it was German resistance that resulted in the disappointing policy decision by the ECB in December, perhaps that resistance is now much less. That makes sense to us – understandable for the German contingent to resist aggressive monetary easing when they assumed inflation over 1.0% this year and at 2.0% next year but far less understandable to resist now. With that in mind, we have formulated what we believe the ECB will do on 10th March. The key components are; a EUR 10bn increase in the monthly pace of QE; a 6mth extension to the QE program to September 2017; and a 10bp cut in the deposit rate to -0.40%. Given the TLTRO auctions come to an end in June, there is also a possibility of further auctions being announced. We also expect some form of tiered deposit rate structure to be announced, similar to what the BOJ announced, thus signalling the potential for more. If that mix proves incorrect, our sense is that the policy mix might centre more on QE than rate cuts. It’s possible that the recent dent to banking sector confidence might mean the ECB leaves the rate unchanged. From an FX perspective, while the policy mix outlined here would likely push the EUR/USD rate lower, we are sceptical of the ECB having much ability to push the euro dramatically lower. We have EUR/USD breaking below 1.0500 later this year but for that to happen we will have to see the FOMC come back into play and raise rates again. So the ECB should manage to get to levels below 1.1000 perhaps but it’s the FOMC to get us below 1.0500.” For more information, read our latest forex news.