Europe | Monetary Policy & Inflation
The ECB’s governing council has significantly stepped up its crisis response since the last scheduled policy meeting six weeks ago. It’s delivered large-scale stimulus through a new asset purchase programme and loosened collateral rules for accessing liquidity support, all the while greatly improving communication around doing whatever is needed. But the unprecedented scale of the current crisis leaves scope for expanding stimulus further. Christine Lagarde does not need to deliver it at Thursday’s policy meeting, but she must convince markets that the ECB stands ready to do more if needed.
Reviewing Intra-meeting Stimulus
The ECB’s Pandemic Emergency Purchase Programme came less than a week after the last policy meeting and has so far bought €96.7bn out of the planned €750bn by year end. Constraints in the QE programme over issuer limits do not apply, and credit quality rules have been loosened to allow for purchases of Greek bonds. QE was already stepped up at the last policy meeting with €120bn by year end added to the ongoing €20bn/month. But the flexibility embedded in the PEPP does not extend to this pre-existing Asset Purchase Programme.
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The ECB’s governing council has significantly stepped up its crisis response since the last scheduled policy meeting six weeks ago. It’s delivered large-scale stimulus through a new asset purchase programme and loosened collateral rules for accessing liquidity support, all the while greatly improving communication around doing whatever is needed. But the unprecedented scale of the current crisis leaves scope for expanding stimulus further. Christine Lagarde does not need to deliver it at Thursday’s policy meeting, but she must convince markets that the ECB stands ready to do more if needed.
Reviewing Intra-meeting Stimulus
The ECB’s Pandemic Emergency Purchase Programme came less than a week after the last policy meeting and has so far bought €96.7bn out of the planned €750bn by year end. Constraints in the QE programme over issuer limits do not apply, and credit quality rules have been loosened to allow for purchases of Greek bonds. QE was already stepped up at the last policy meeting with €120bn by year end added to the ongoing €20bn/month. But the flexibility embedded in the PEPP does not extend to this pre-existing Asset Purchase Programme.
PEPP expansion, both in size (perhaps to €1 tn) and duration (extending it into 2021) is widely expected. Given the programme is in its early stages, we do not, however, think this needs to happen right now. Japan’s symbolic move earlier in the week to commit to unlimited bond buying may add some additional pressure. But we expect the ECB will opt to use Thursday’s press conference to explain the recent stimulus and as a chance for Lagarde to reiterate her statement that “there are no limits to our commitment to the euro”, emphasizing that more policy support will come, if needed.
Changes to the composition of assets purchased under PEPP to include fallen angels – or sovereign and corporate debt that has been downgraded from IG to junk – may be in the pipeline, but again not necessarily announced on Thursday. Ratings downgrades have been partially pre-empted by last week’s announcement that collateral eligible for liquidity operations as of 7 April will continue to be eligible until September, providing the rating does not fall below BB. Extending this to asset purchases would further ease concerns over any Italy downgrade into junk, particularly given today’s downgrade by Fitch to BBB minus, which came outside of the scheduled review dates and leaves the rating from both Fitch and Moody’s just one notch above junk. Greek debt had already been granted eligibility as collateral against ECB liquidity and valuation haircuts reduced across the board.
There is likely to be little focus on the deposit rate at this meeting with no change to the current -0.5% expected.
Committed to Addressing Rising Spreads
Lagarde will be at pains to stress the ECB’s commitment to “smooth transmission” of monetary policy across the Euro area, particularly after her slip up during the last ECB press conference. She is likely to be questioned on mechanics to address Italy’s widening bond spreads, which have recovered slightly but remain significantly wider than in early March, and on whether the lack of concrete progress on a European Recovery fund changes the ECB’s likely response to the crisis.
Finally, Lagarde’s recent comments of an expected 9% decline in the Euro area economy this year, or 15% in a worst-case scenario, are likely topics in the Q&A. Updated staff forecasts are not due until June and last week’s significantly worse-than-expected PMI releases highlight the difficulty in accurately capturing the COVID shock.
Euro area Q1 GDP will be released a few hours ahead of the decision, and consensus is for a 3.2% QoQ decline. The exact number is unlikely to influence the immediate policy decisions, however, given the Q2 growth outturn will be significantly worse. The flash inflation reading will also be released on Thursday morning with headline CPI expected to drop to 0.1% YoY in April from 0.7% in March given the slump in oil prices.
(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)