Will Tepid IFO Force ECB to QE?

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Market Drivers for October 27 2014

ECB stress tests come in pretty much in line EUR/USD has little reaction

IFO slightly lower than forecast drops sixth month in a row

Nikkei 0.63% Europe 0.18%

Oil $81/bbl

Gold $1229/oz.

Europe and Asia:

EUR ECB Stress tests 25 banks fail

EUR GE IFO 103.2 vs. 104.6

North America:

USD Pending Homes 10:00

Currencies were relatively placid on the first trading day of the week despite a flurry of news over the weekend following the release of the ECB stress tests for the banks. The results which were released on Sunday showed that 25 banks failed the stress test needing to raise approximately 25 Billion euro in order to come back into compliance.

That is a relatively small number especially when taken against the 22 Trillion euros on the balance sheets of European banks. The stress test number could even be reduced further when all of the up to date capital raising is taken into account leaving essentially just 7 Billion euro shortfall.

The news was generally positive for the euro, but most of it was leaked on Friday and the unit already priced in much of the results on the close of trade last week. The pair has been hovering around the 1.2700 level for most of the Asian and European session as markets digested the news but it did drift a bit lower after the IFO survey numbers were released.

The IFO business sentiment printed at 103.2 versus 104.6 forecast – the sixth straight month of lower readings as conditions in Germany clearly remain challenging. IFO chief economist Wohlrabe noted that there were almost no bright spots in the German economy now, stating that the recent uptick in PMI reading is so far absent from the sentiment measures. IFO now expects German growth to be 0% in Q4 of 2014 as export demand remains tepid.

For the past several months the economists from IFO have been considerably more pessimistic that the policy makers in the region and have called on ECB to be far more active in its capacity to stimulate in the EZ. There may be a widening of opinion between the business leaders in Germany who are clearly becoming concerned about lack of growth prospects in the foreseeable future and the resolutely hawkish policy makers at BUBA who insist on a tight monetary stance.

If German business interests begin to pressure Mr. Weidemann then the ECB may finally commit to a large scale QE plan which could weaken the euro in the short term but strengthen the EZ economy in the long term. The markets may already sensing the tilt towards more easing which is one reason for why the the EUR/USD has not reacted more positively to the stress test results. With growth in the EZ flatlining the prospects for QE remain strong.

Boris Schlossberg
Managing Director

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