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ECB Meeting Next Week: Cyprus Serious Trouble For Draghi

Thursday, 28 Mar 2013 | 1:01 PM ET
Mario Draghi
Getty Images
Mario Draghi

Next week, much of the action will again be outside the United States, with the European Central Bank (ECB) and the Bank of Japan (BOJ) both holding meetings.

ECB: Cyprus is serious trouble for Draghi. There's been speculation that the ECB may cut rates, particularly in light of weak economic data and low inflation.

But that's a side story. Draghi has much bigger problems. He was oddly quiet this week, but it's clear that events in Cyprus are bad news for the ECB. He is very worried that the actions in Cyprus will create a whole new wave of weak southern European banks that will go to the ECB asking for emergency funding.

That's why there's even more urgency for a banking union. Draghi will likely start pushing for a broad recapitalization of banks that will involve clear rules on who gets bailed-in and when the ECB will step in with funding. They also need some consistent mechanism to wind down insolvent banks, a Single Resolution Mechanism (SRM). All of this is part of a banking union that has just become a much more difficult sell, thanks to Cyprus.

More non-standard measures? Draghi needs to cut off any talk of bank runs. Whatever happened in Cyprus, don't worry, it's not going to happen here.

I'll be listening to hear if Draghi mentions any liquidity problems that banks might be having, which would certainly lead to some action, perhaps an easing in rules on what kind of collateral could be posted from banks in order to obtain funding.

In a worst case scenario--which is not happening--he could even announce a new Long Term Refinancing Operation (LTRO) that would provide ultra-cheap (one percent) loans to banks. He could also get money to banks in trouble with the Emergency Liquidity Assistance (ELA) program, which funnels money to the country central banks. And of course, in the event of a real disaster, the ECB could just start buying sovereign bonds outright from banks as a back-door way to recapitalize them.

Meanwhile, the next crisis is already brewing. The head of the Slovenian national bank said "Slovenia does not need a bailout." Maybe, but they certainly need to recapitalize their banks, which are suffering under the weight of a lot of sour loans in real estate, among other investments.

Bank of Japan: what can Kuroda say? The Bank of Japan also holds a meeting next week, the first with its new chief. But there's a big problem: What can Kuroda say that has not been anticipated by the markets already? Buying more bonds? Of course they will do that. A lot. Buying longer-date bonds? Maybe.

Kuroda is expected to come out swinging, but the Nikkei is up 38 percent since the beginning of November, and the Yen has depreciated 15 percent against the dollar in the same period.

Shorting the Yen is probably the single biggest trade of the entire hedge fund community. The risk is that the trade has gone as far as it can go. Kuroda had better come out shouting, dressed in a samurai outfit.

By CNBC's Bob Pisani

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  • A CNBC reporter since 1990, Bob Pisani covers Wall Street from the floor of the New York Stock Exchange.

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