ECB Preview: Lots Of Noise, No Changes
The ECB is set for a major decision on asset purchases at 745 am ET, though recent speeches point to little disagreement among members of the Governing Council.
As intra-euro-area yield spreads widen, this seems to be no time for the hawks to bicker about more bond buying, and as a result strategists mostly expect policy makers to opt for another three months of “significantly higher” purchases through the Pandemic Emergency Purchase Programme, which will remain at about 85 billion euros in 3Q instead of falling this month to the same level as in 1Q. Policymakers are also expected to leave the balance of risks in the introductory statement as it was characterized at the last meeting on April 21-22 as they continue to stress the need to preserve favorable financing conditions. Finally, the forecasts of the ECB’s staff economists are unlikely to be materially changed, though they should show slightly weaker economic activity in 1H 2021 and higher inflation for the full year; the near-term growth outlook is set to be upgraded. 2023 inflation is to continue to fall short of target.
Here is a full preview courtesy of NewsSquawk
OVERVIEW: With rates set to be left unchanged, focus for the upcoming meeting will centre on the Governing Council’s approach to asset purchases under its PEPP programme during Q3. In Q2, purchases were conducted “at a significantly higher pace than during the first months of the year”. The decision to carry this pace into Q3 will be predicated on the ECB’s perception of financing conditions in the Eurozone. Conditions are viewed to have tightened since April’s meeting, however, they still remain favourable overall. The doves at the Bank will argue that conditions remains favourable on the basis that the market expects the ECB to continue to provide support via PEPP at its current level of purchases, and that slowing purchases alongside an (expected) upgrade to the near-term outlook will be deemed to be a hawkish development; something which the Bank wishes to avoid. Accordingly, consensus looks for the current pace of purchases to be maintained into Q3, however, the phrase “significantly higher pace” may be dropped from the statement in a bid to appease some of the hawks on the GC.
PRIOR MEETING: As expected, rates and asset purchases were left unchanged. The ECB reiterated its pledge that “the Governing Council expects purchases under the PEPP over the current quarter to continue to be conducted at a significantly higher pace than during the first months of the year”. President Lagarde took a balanced view of the economy by noting that “the risks surrounding the euro area growth outlook over the medium-term have become more balanced, although downside risks remain in the near-term”. Note, this was a reiteration from the March meeting and therefore there was not much of an alteration in the Governing Council’s outlook for the Eurozone despite an increasingly successful vaccine campaign. Comments ahead of the meeting from Netherland’s Knot suggested the ECB could begin phasing out PEPP in Q3 and conclude purchases by March 2022. However, Lagarde was resolute that any discussion of tapering would be premature and the Governing Council did not consider a reduction in the pace of PEPP purchases; this was later echoed by sourced reports after the meeting. Furthermore, Lagarde stated that the ECB had significantly raised the level of its purchases and will continue to do so.
RECENT DATA: Headline flash Y/Y CPI for May printed 2.0% vs April’s 1.6%, with the core metric rising to 0.9% from 0.8%. Despite headline inflation residing “at target” for the ECB, much of the price pressure continues to be deemed as transitory in nature and therefore has been discounted by the market. In the absense of hard growth data for Q2, focus has been placed on timelier survey reports. The latest of which for the Eurozone showed the services metric rising to 55.2 from 50.5, manufacturing ticking higher to 63.1 from 62.9. Within the report, Markit noted “the service sector revival accompanies a booming manufacturing sector, meaning GDP should rise strongly in the second quarter”. However, “a growing area of concern is capacity constraints, both in terms of supplier shortages and difficulties taking on new staff to meet the recent surge in demand”. On the vaccine front, the EU remains on track to reach its target of vaccinating 70% of its adult population by July.
RECENT COMMUNICATIONS: President Lagarde has done little to push back on any of the dovish tones struck by colleagues in the run-up to the meeting by noting that the “ECB is committed to preserving favourable financing conditions” throughout the panedmic period. Chief Economist Lane has stressed the transitory nature of inflation in the Eurozone by attributing price rises to base effects whilst noting that there is nearly a “0% connection” between price action related to reopening and fundamental inflation”, and concluding that he does not see an environment for persistent inflation in the Eurozone”. A lot of attention has also been placed on comments from Germany’s Schnabel that a premature removal of ECB support would be a great mistake, although financing conditions remain favourable, adding that recent yield increases are a factor of the improved outlook and “precisely what we would expect and want to see”. Not all of her colleagues agree though, with Italy’s Panetta labelling rises in yields as undesirable. From a policy perpsective, France’s Villeroy has suggested that any hypothesis for a reduction of purchases for part of Q3 or following quarters is purely speculative, whilst Greece’s Stournaras noted there is “no reason” to change the pace of purchases under PEPP. Hawks on the Governing Council have done little to push back on some of these more dovish remarks with Netherland’s Knot’s most recent remarks just noting that the European recovery appears to be going faster than expected.
RATES: From a rates perspective, consensus looks for the Bank to stand pat on the deposit, main refi and marginal lending rates of -0.5%, 0.0% and 0.25% respectively. Some policymakers have previously suggested that the ECB is yet to hit its reversal rate for the deposit rate, however, a move further into negative territory is not expected at this stage. As a guide, markets currently assign a 5% chance of a 10bps cut to the deposit rate at the upcoming meeting.
BALANCE SHEET: Since the decision to conduct purchases under PEPP at a “significantly higher” pace in March, Goldman Sachs notes that the Q2 holdings on average have increased by EUR 18.6bln/week or EUR 80.6bln/month. The key decision for the ECB at the upcoming meeting will be on whether the Governing Council agrees to keep carrying out purchases at this elevated rate. Such a decision will be predicated on the Bank’s perception of financing conditions. On which, Eurozone sovereign yields have risen (albeit, partially pared back since mid/late May), the German Bund-Italian BTP spread has widened, the EUR is slightly firmer and the latest ECB Bank Lending Survey highlighted falling loan demand. The judgement for the ECB will come down to whether or not, despite the tightening of financial conditions, they remain favourable enough and whether or not any tightening has been warranted. Desks highlight that the doves on the Governing Council will try and push the argument that the favourability of financial conditions is predicated on the ECB providing its current level of support via the PEPP programme and therefore, a slowing in the pace of purchases could undermine the Bank’s efforts. Rabobank suggests that hawks will try and counter any such argument by noting that increases in nominal yields have not been reflected in real yields and therefore, financing conditions are not as tight as they appear. When it comes to classifying recent increases in yields as warranted or unwarranted, there appears to be some division among officials, as seen in the recent recent remarks from Germany’s Schnabel and Italy’s Panetta (see above). In terms of the practicalities, the ECB still has scope to keep conducting purchases at its current rate for another quarter without having to worry about exhausting its EUR 1.85tln envelope by March next year. Furthermore, some desks tout that running purchases at the current pace until the September meeting will allow policymakers to make a more informed judgement on the Eurozone’s recovery, at which point, the EU should have reached its vaccination target. Accordingly, consensus looks for a similar pace of purchases in Q3 as seen in Q2 under PEPP. However, as part of a “compromise” it may drop the phrase “significantly higher pace” (as suggested by ING and HSBC, with the former expecting it to be replaced with something along the lines of “the Governing Council expects purchases under the PEPP to ensure current favourable financing conditions”). Note, desks are not unanimous in their expectations for an extension of Q2’s pace of purchases into Q3, with analysts at Rabobank suggesting that the ECB could use the typical summer lull as a “way out”, which would allow them to lower purchases in Q3 as a “technical adjustment”. That said, the Dutch Bank acknowledges that such a move could still be considered hawkish given the likely accompanying upgrade to its near-term outlook.
ECONOMIC PROJECTIONS: From a more quantitative perspective, the accompanying economic projections are set to see a mild upgrade to the 2021 growth forecast of 4.0% as more upbeat expectations for Q2 and Q3 offset the mild disappointment seen in Q1. 2022 and 2023 are set to be left at 4.1% and 2.1% respectively. On the inflation front, consensus looks for an upgrade to 2021 and 2022 inflation forecasts of 1.5% and 1.2% respectively amid the backdrop of firmer oil prices and a more encouraging growth environment. The 2023 inflation forecast is set to remain at 1.4% and thus fall short of the ECB’s current inflation mandate of “below, but close to, 2% over the medium term”.
PRESS CONFERENCE: The tone of the accompanying press conference will partly be predicated on the actions taken at the 1245BST policy announcement. However, the over-arching theme will nonetheless likely be President Lagarde stressing the ECB’s commitment to preserving favourable financing conditions. Alongside the quantitative assessment (see above) for the Eurozone economy, the ECB might opt to upgrade its assessment of risks surrounding the economic outlook to a more balanced view (currently seen to be on the “downside” in the medium-term), whilst acknowledging that the medium-term inflation outlook remains muted. Given the likely shortfall in the Bank’s expectations for inflation in 2023 in relation to its current target, Lagarde will likely be questioned on the ECB’s strategic review, the conclusions of which are set to be presented in September. However, as has been the case since the announcement of the review, the President is unlikely to front-run the findings of the review. Elsewhere, Lagarde will likely be questioned on how the Bank intends to exit its PEPP programme and whether that will involve it bolstering its existing APP when it ceases. However, she will likely stress that any such decision would be premature at this stage.
Finally, the always useful ECB cribsheet from ING is below.
Thu, 06/10/2021 – 07:07