Global central banks: Fed and BoE could soon re-join ECB and BoJ in QE – Given the sharp tightening of financial conditions and deteriorating economic outlook, we now expect even more aggressive easing from central banks. The Fed and the BoE are now expected to take their policy rates close to zero and will likely launch QE programmes thereafter (see below). The ECB and BoJ are still very much in QE mode and we would expect both central banks to step up asset purchases. Indeed, the ECB is likely to increase net asset purchases at its meeting this week (preview below). A likely innovation is a larger cut in the TLTRO rate than the deposit rate.
Fed View: More rate cuts, and a potential QE restart – With the spread of the coronavirus suggesting even bigger economic disruptions than we had previously anticipated, we now expect the Fed to cut an additional 100bp from current levels over the coming weeks (previously, we expected one more 50bp cut at the March FOMC). This would take the target range for the fed funds rate back to the post-crisis low of 0.00-0.25%. As a base case we assume this easing will come at the March and April FOMC meetings, but depending on how quickly the disruptions to activity become apparent, the easing could be front-loaded (for instance a 75bp or even 100bp cut at the March meeting), and/or we could see further intermeeting moves by the Committee. As we discussed in our Daily last week, rate cuts cannot contain the virus spread, but they can help cushion the economic blow by putting a floor under financial conditions and supporting confidence and the eventual recovery.
Beyond this, we also now see the restart of QE as increasingly likely. In communications, Fed officials have sounded consistently sceptical of the efficacy of negative rates, and so we do not think it likely at this stage that the Fed will cut below the previous 0.00-0.25% target range for the fed funds rate. Instead, we think the Committee’s preference for further easing would be to restart purchases of longer dated bonds, likely in an open-ended manner. Given rapidly changing events, we are reviewing our macro scenario on an ongoing basis, and expect to communicate more details of both this and the likelihood of a QE restart in the coming days.
BoE View: 50bp cut in March, QE restart in April – For similar reasons to our Fed call change, we also now expect more aggressive easing from the Bank of England to counter the coronavirus fallout. At the MPC meeting on 26 March, we expect the Committee to cut by 50bp; previously, we expected a 25bp cut. This would take Bank Rate to 0.25%, and given the BoE’s similar scepticism over negative rates, we expect the next move in April to be a restart of quantitative easing. In contrast to previous rounds of BoE QE, we expect this to be announced as open-ended at GBP20bn per month rather than a stock announcement. This should give the BoE the flexibility to provide accommodation and potentially bring it to an early halt once activity looks to be normalising. Alternatively, if there is a prolonged hit to activity, asset purchases could continue for longer.
ECB Preview: Package of stimulus expected this week – We remain of the view that the ECB will announce a stimulus package at its meeting this week. The eurozone looks to be heading for an (albeit moderate) recession, the inflation outlook was already unsatisfactory and inflation expectations are collapsing. We think that the ECB will cut its deposit rate by 10bp, increase net asset purchases to EUR 40 bn (from 20bn currently) and loosen conditions on its TLTRO programme. There are a number of possibilities with regards to the latter. It can increase the maturity by a year or possibly two. It can increase the amounts that banks can borrow. Finally, and – for the first time – it could well reduce the TLTRO lending rate below the deposit rate. For instance, we think on balance it will reduce the TLTRO rate by 20bp, compared to the 10bp drop in the deposit rate. Reducing the TLTRO rate could be a more effective way of easing bank lending conditions than reductions in the deposit rate. This would be a way of testing the water, but deeper cuts in the TLTRO rate could be something the ECB could consider in the future. (Bill Diviney, Nick Kounis & Aline Schuiling)