Weekly Review

Omer Talovic | 08:30 | 14/10/13 |

Economists say the European Central Bank is going to boost liquidity for European commercial banks instead of cutting interest rates. The interest rate is expected to stay at 0.5% for a long time, and Draghi will not cut it because there is a rebound in the European economy.

The operation through which the ECB is increasing liquidity for banks already exists and is called LTRO-long term refinance operations. This facility is lending money to banks. The cost of the loans (interest) is very low. 

Boosting liquidity this way is equivalent to lowering the interest rate, but the rate can stay as is. The facility lent hundreds of billions of dollars to banks in Europe in 2011 and 2012. This program is believed to have saved the banking system in Europe back then.

The LTRO facility was initiated in 2011 and was planned for 3 years. This means that in 2014 banks will have to return the loans they received in 2011. This will decrease liquidity in the banking system. The ECB is not interested in lower liquidity, especially at a time when the economy is starting its rebound. Hence, the bank will probably provide the financial system with new LTRO loans.

Some of the banks in Europe are reluctant to lend, thus making it difficult for borrowers to obtain loans. This is true in southern Europe, while French and German banks are operating much better than their periphery peers. The economic rebound is also uneven, with the economy in Germany showing very positive signs, whereas Italy and Spain are still suffering from considerable economic pain. Greece is expected to emerge from recession next year.

For the EUR/USD, 1.3580 and 1.3600 are the near term resistances, while 1.3630 is a stronger resistance, which is situated near the beginning of October top at 1.3646. 1.3520 and 1.3490 are support levels.

Fundamentally, the debt limit impasse crisis in the US is damaging the economy, and therefore we see more upside for the EUR/USD in the near term. Under no circumstance should this be seen as advisory content.