Europe holds nerve as Russia-Ukraine warnings ratchet up

European markets cautiously set aside warnings that Russia's conflict with Ukraine was sliding out of control today, as investors focused on the European Central Bank's meeting this week and hopes it will strengthen its stimulus plans.

Shares on the region's FTSEurofirst 300 index nudged 0.2 per cent higher in early trading following a similar performance by Asian stocks despite some mildly disappointing data from China. Euro zone periphery bonds suggested that appetite for risk was alive as the euro also held its ground at $1.3132 as it hovered just above a one-year low against the dollar and a two-year low versus the British pound.

"Naturally, developments between Russia and the Ukraine will be in the cross sights. However, despite more concerning rhetoric that tensions are nearing a point of no return, we haven't really seen a heavy bias towards defensive trading strategies today," IG chief market strategist Chris Weston said in a note to clients.

Ukrainian president Petro Poroshenko warned at the weekend that a "full-scale war" was imminent if Russian troops continued to advance in support of pro-Moscow rebels and US and European leaders threatened further economic sanctions on Russia within a week.

Moscow appeared in no mood to back down however. Vladimir Putin called yesterday for immediate talks on the "statehood" of southern and eastern Ukraine and his foreign minister Sergei Lavrov gave a strong hint today that Russia would retaliate to European sanctions with its own measures.

Dollar-traded shares in Moscow took another tumble in early trading and the rouble fell 1 per cent to hit a new record low. The euro in contrast barely budged after dropping as low as $1.3119 at the end of last week, while the dollar index edged up to 82.764 in Asian trade, not far from Friday’s 13-month high of 82.773.

The European Central Bank meets on Thursday and is the prime event for markets seeking clarity on the euro zone's response to a stalled recovery, disappearing inflation and the sluggish pace of reform in the euro zone.

Inflation in the 9.6 trillion euro economy dropped to a fresh five year low of 0.3 per cent in August and as the months fly by, the bloc’s cushion against Japan-style deflation is getting smaller and smaller.

Benoit Coeure, one of the ECB's top policymakers, said in an interview over the weekend that the bank is ready to adjust its monetary policy further if needed. French prime minister Manuel Valls also repeated French calls for the ECB to tackle the problem of an overvalued euro. "Pressure for the ECB to do more has returned, not only because of weak output/inflation data, but mostly following (ECB's president Mario) Draghi's speech in Jackson Hole, " said Frederik Ducrozet, senior euro zone economist at Credit Agricole. He was referring to comments by Draghi in a speech last month saying the ECB was prepared to respond with all "available" tools if inflation drops further.

Reuters