Why could rates cuts in Europe be more damaging than good

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The European Central Bank is likely to launch a new wave of loose cash policies on Thursday to implement its low low inflation rate. But there is much doubt that there is something else: the euro.

It is estimated that the central bank will reduce interest rates and revive the President's bond purchase program

Mario Draghi

Late meeting ’. And while the ECB does not focus on specific levels for the euro, the exchange rate has become a policy focus because of the concern that currency strength puts pressure on inflation.

“This is true (focusing on the euro) more seriously than ever,” he said

Seema Shah,

key strategies at

Chief Global Investors
.

PFG 0.05%

“Interest rates are so low that any extra cuts will not have a big impact and will make things worse. So why bother? Simply focus on the euro. ”

But if that is the aim, your price could come to success. With further weakening of the euro, which is falling against the dollar for almost 18 months, there is a danger that President Trump would encourage and interfere with trade relations. In June, when Mr Draghi expected a new round of easy money policies, Mr Trump said a weaker euro “making it unfairly wrong” for Europe to compete with the US.

The central bank must do something because inflation is low and falling: the latest reading in July was only 1%, half the ECB's target level. However, some board members questioned the need for more bond purchases, or quantitative facilitation, before the meeting. Politically in Europe, it is easier to cut rates, although they are already minus 0.4%.

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“A“ door opens to Trump opens and accuses the ECB of actively weakening the currency, ”said

Daniel Tenengauzer,

head strategy of markets and insights at BNY Mellon in New York. If Europe's problem is “shock external claims from China, then the exchange rate will not help.” T

For the ECB, rate reductions are the best tool to influence the exchange rate, as Mr Draghi set out in another major speech in Amsterdam in 2014.

But some believe that this policy does not make sense. The euro has fallen this year even as inflation is falling, undermining the importance of their connections. On a trade weighted basis, in which the Chinese yuan and British pound are important together with the dollar, the euro is also weaker than it was at the beginning of the year, although the ground has passed in the last few months.

The link between the euro and inflation has been weakened, according to some observers, as European trade is more invoiced in euro and has only a price of dollars or other energy imports.

In the meantime, cut rates could hurt the economy if it encourages the White House, for example, to mitigate threats to the imposition of tariffs on European car makers. Mr Trump is more likely to have a bad reaction, cut at the end of analysts expectations: 0.2 percentage points, or 20 basis points.

“If a 20-point coin is cut, it will be regarded as a currency write-off in the US and it will hurt the EU-EU. trade negotiations are bad, ”said

Sebastien Galy,

senior macro strategies at Nordea Asset Management.

There are also other problems. Negative rates of bank profits have hurt and they lend some lenders more time to lend, just the low rates involved. The ECB will try to make things less painful for banks by exempting them from some of the costs, but this is not easy.

ECB's own principal economist, t

Philip R. Lane,

He spoke in last week's speech that negative rates contributed less than other policy tools to manage inflation since 2016.

Focusing on the euro could be fighting a lost battle – and a policy mistake. Mr. Tenengauzer does not consider that the euro will weaken to the point where one euro buys one dollar.

ECB President Mario Draghi, appeared in June 12.

Photo:

News Andreas Arnold / Bloomberg

“The monetary policy gap between the US and Europe has already gone far beyond its reach,” said Mr Tenengauzer. “From now on, there will be more policy convergence, so the dollar is at its peak.”

And if future US rate cuts help to weaken the dollar, this could be good for Europe.

“If the US is mitigating (monetary policy) and pushing down the dollar as it is mitigating, it must be better for global growth, including Europe,” said

Dominic White,

main economist at Absolute Strategy Research.

Write Paul J. Davies at paul.davies@wsj.com

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