Will Pending Eurozone Bank Crisis Take Down the Euro (EUR)?

February 26, 2016 - Written by David Woodsmith

STORY LINK Will Pending Eurozone Bank Crisis Take Down the Euro (EUR)?

EUR/GBP Exchange Rate Remains Below 1.27 despite Volatile Equity Markets

The euroland’s financial markets endured a mini-meltdown during the middle part of this month, with shares in the region’s leading retail banks entering free-fall after news of slumping profits or outright losses.

The move out of equities in the eurozone’s lenders was triggered by a response from Deutsche Bank’s Finance Director to a journalist’s question on whether his bank had the collateral to honour their high-yielding contingent convertible bonds (cocos) should all holders opt to redeem. His failure to provide a positive response set investors nerves on edge and sent bond yields spiralling.

Deutsche Bank’s shares tumbled and at one point were changing hands at 40% lower than they had been at the turn of the year. The euro area’s other major bourses also incurred hefty losses, but the euro (currency : EUR) held steady, and has managed to improve to its strongest level against the Pound Sterling (currency : GBP) in well over a year in the middle part of this week.

Bets Regarding ECB Easing Weighing on Euro Demand

However, the mid-February wobble for the euroland’s banking stocks by no means marks the end of investors’ concerns; with the European Central Bank’s preferred policy-setting measure of inflation expectations amongst the region’s economic participants hinting that low inflation is here to stay for the long-term, the ECB is facing its own existential crisis.

The ECB’s own research suggests that the consensus belief in the eurozone is that local inflation will average out at a lowly 1.4% - far below the ECB’s target of 2.0% - over the next 5 – 10 years. This has led analysts to suggest that the ECB will be forced to cut its benchmark rate of interest – which currently stands at 0.05% - to below zero.

Conventional wisdom dictates that such a move will place unbearable pressure on many of the 6,000 continental banks which rely on attracting deposits from clients in order to lend out.


An alternative to cutting already ultra-low interest rates would see the European Central Bank further extend the €60 bn per month which it allocates to its controversial Quantitative Easing programme. ECB President Mario Draghi has dropped heavy hints that such a move may be on the cards for his Bank’s 10th March policy announcement. Analysts forecast that such a move would see the euro perform on a firmly negative footing into the medium term.

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