ECB surprises markets with slowdown in bond buying
The European Central Bank yesterday extended its mass bond-buying programme to underpin a eurozone economy rattled by political uncertainties, but surprised markets by slowing the pace of its asset purchases. Sluggish growth, below-target inflation, the election of Donald Trump, and the resignation of Italian Prime Minister Matteo Renzi prompted most observers to predict quantitative easing would be extended beyond its March 2017 expiry date. But the bank caught investors off-guard by saying it would reduce its bond-buying from €80bn to €60bn ($65bn) a month from April, as well as prolonging the programme to December 2017.
“By extending its asset purchases for another nine months but at a reduced monthly rate… the ECB is seemingly compromising between the more hawkish and dovish members of the Governing Council,” said analyst Howard Archer of IHS Global Insight. Some observers have warned that any sign the bank was “tapering” — or winding down purchases — could spook bond markets, pushing up the cost of financing in the single currency area. “There is no question of tapering,” ECB president Mario Draghi told journalists at a Frankfurt press conference. “That’s not been discussed, it’s not even been on the table,” he added. “Today’s decisions looked, walked and quacked like tapering,” said economist Carsten Brzeski of ING-Diba bank.
Markets might not accept Draghi’s protestations and “give the ECB its very own temper tantrum,” he warned, referring to the rise in US treasury yields when the Federal Reserve moved to end its own QE programme in 2013. A Bloomberg News report in October that QE might be on the way out troubled bond markets. But yesterday the benchmark German 10-year bond yield actually declined in reaction to the ECB move as investors bought into bonds. European stock markets also rose. ECB watchers have warned that the fragile recovery in the eurozone could be undermined by any sign central bank support is on the wane.
Euro area inflation hit a two-and-a-half-year high in November at 0.6%, but remains far short of the central bank’s target of just below 2.0%. Meanwhile, economic activity in the eurozone could suffer if Trump implements protectionist promises in the US made on the campaign trail. And the 28-country European Union has worries of its own, with Britain headed for the exit door, Italy destabilised by the resignation of Renzi, and elections in the key eurozone economies of France and Germany next year. The bank pointed towards these uncertainties yesterday by insisting that if “the outlook becomes less favourable… the governing council intends to increase the programme in terms of size and/or duration.” “Since uncertainty prevails everywhere, that’s the reason for this sentence,” Draghi said.
But he added that faced with political upsets this year, “markets, the financial intermediaries, proved much more resilient than people had expected” — even if the effects of a “radically new” US administration under Trump have yet to make themselves felt.
Also yesterday, the ECB’s governing council voted to keep key interest rates unchanged at record lows at the last meeting of the year. It also unveiled its first projections for 2019, forecasting growth of 1.6% and inflation of 1.7%. Some ECB policymakers have hinted that with forecasts showing inflation rising steadily it is time the stimulus was withdrawn. Banks regularly grumble that low interest rates are hurting their business, and influential German economists have repeated calls in recent weeks for the ECB to end its bond-buying. ECB monetary policy is designed to make access to credit easier for businesses and consumers, powering a recovery with investment and consumption.
Cutting off that support too soon or too suddenly could halt the eurozone’s return to stable growth in its tracks by curtailing access to credit, the ECB fears. Along with the language designed to reassure that bond purchases could always increase again, the bank offered a further signal yesterday that it will not yank its support away.
In future, the ECB will be able to buy bonds with a minimum maturity of one rather than two years, Draghi said, and a rule blocking the bank from buying bonds with a yield below its deposit rate of interest — currently -0.4% — will be lifted. Buying such negative-yielding bonds is “an option not a necessity,” Draghi said, that would make sure the ECB does not run out of eligible bonds to buy.