ECB View – Committees have been tasked with design of stimulus – The ECB strongly signalled in its statement and press conference that a package of stimulus measures was on the way (see here and here) and would likely be announced in September. ECB President Draghi also expressed heightened concern about the inflation outlook and the central bank’s determination to tackle the problem, which suggests that there might be further waves of stimulus beyond September. In particular, net asset purchases could ultimately persist through 2020.
Forward guidance – The ECB changed its forward guidance on policy rates as widely expected to indicate that policy interest rates could go lower:
‘The Governing Council expects the key ECB interest rates to remain at their present or lower levels at least through the first half of 2020, and in any case for as long as necessary…’
Preparing modalities for stimulus – Even more explicitly, it signalled that officials had been asked to do the homework necessary to put together a monetary stimulus package. It explained that:
‘the Governing Council has tasked the relevant Eurosystem Committees with examining options, including ways to reinforce its forward guidance on policy rates, mitigating measures, such as the design of a tiered system for reserve remuneration, and options for the size and composition of potential new net asset purchases’
Interest rate cuts and tiering – We expect the ECB to cut its policy rates by 10bp in September followed by an additional reduction of 10bp in subsequent months. The ECB also looks likely to announce some form of deposit tiering system, given it is explicitly mentioned as a mitigating measure. We continue to think that the design of such a system will prove complicated.
Asset purchases – In addition, we expect the ECB to announce a resumption of net asset purchases at the September meeting, with actual purchases starting in October. We previously expected an announcement in December, with purchases starting in January of next year. We continue to think the initial announcement will be for 9-months at EUR 70bn per month, for a total programme size of EUR 630bn. In our view, the programme could see relatively more purchases of national agency and regional bonds and corporate bonds. Within the public sector programme, the issue(r) limit for sovereigns could be left unchanged, though it could rise for national agency and regional bonds.
Inflation worries – The ECB’s broader commentary on its inflation problem and its determination to address was stark. It ‘underlined the need for a highly accommodative stance of monetary policy for a prolonged period of time, as inflation rates, both realised and projected, have been persistently below levels that are in line with its aim’. In addition, it stressed ‘its commitment to symmetry in the inflation aim’. The ECB President revealed in the press conference that there was a discussion in the meeting about whether to alter its definition of price stability, a discussion he said would continue going forward.
Mr Draghi also set out the reasoning behind the ECB’s heightened concerns about inflation and the reasons it is preparing to announce fresh stimulus. First of all, the economic outlook has deteriorated, with the ECB President noting that it had become ‘worse and worse’, especially for the manufacturing sector. Downside risks had continue to linger and the persistence of uncertainty actually represented a materialisation of some of those risks as it was weighing on economic activity.
A weaker outlook for economic growth meant that the profile for inflation would be lower than previously expected. At the same time, the ECB is not content with its existing projection for inflation, which sees the headline rate at 1.6% at the end of its forecast horizon, which is below its aim. When it first presented this forecast in March 2019, the Governing Council did not seem too concerned about this. However, its view has subsequently changed. Perhaps the decline in market inflation expectations, which will be confirmed by the ECB Professional Forecasters Survey (to be published tomorrow) has triggered concerns about the central bank’s credibility. (Nick Kounis & Aline Schuiling)