(The views expressed here are those of the author, columnist for Reuters.)
LONDON, July 21 (Reuters) – If you’re waiting for the imminent end of central bank “quantitative easing” of bond purchases, make sure you’re comfortable. The European Central Bank may well throw another $ 1 trillion log on the fire as early as this week.
As government lending rates fell across the world this week and stocks shivered, it appeared markets questioned long-held assumptions about an end to pandemic lockdowns, scorching economic rebounds, and the generalized reflation.
The COVID headlines this month have certainly given investors some food for thought, even though a complete overhaul of vaccine-based recoveries still seems pointless.
But possible signals from Thursday’s ECB policy meeting could be just as responsible for the grim reading coming from global bonds. Another wave of post-pandemic bond buying looks likely in Europe, inevitably spilling over into other markets even as other central banks begin to gradually reduce emergency stimuli linked to COVID.
Much like the Federal Reserve did last year, the ECB this month announced changes to its long-term strategic goals ahead of schedule. While it didn’t completely mimic the Fed’s shift to averaging its inflation target over time, it made what seemed like small adjustments, but which could have huge implications for it. purchase of bonds.
On July 8, the ECB moved its 2% inflation target from “below but close to 2%” and agreed that the inflation rate could temporarily deviate above or below.
Barely seismic at first glance. But when you realize that the ECB’s own inflation forecast for 2023 is only 1.4% – even after its massive pandemic bond purchase plan of $ 1.85 trillion expires (PEPP) next March – then you see how much work he has to do to make that 2%.
This week he plans to change his policy stance to reflect this new strategy – ECB chief Christine Lagarde insisting that ECB policy must be “particularly aggressive and persistent” when interest rates are falling. already less than zero.
For ECB watchers, this underscores the fact that the ECB now views bond buying as its primary policy tool and will use it forcefully and continuously until it achieves its goals.
For a central bank that briefly raised interest rates in 2008 amid one of the biggest bank crashes in modern history – and repeated the mistake in 2011 as the sovereign debt crisis of l euro was unfolding – the lesson of a premature tightening was learned the hard way.
So if the PEPP is to expire in March – assuming the pandemic actually ends by then – that “force” will need to be applied to its permanent Asset Purchase Program (APP) that was in place before the pandemic. but which still works alongside the PEPP at only 20 billion euros per month.
Katharine Neiss, chief economist for Europe at asset manager PGIM Fixed Income, believes the problem is now the credibility of the ECB as it battles years of sub-target inflation expectations.
“Its future effectiveness as an institution relies on supporting its discourse on political march,” she said.
FROM WORD TO ACTS
Neiss said she sees app purchases increase up to four times to $ 80 billion per month after March.
That would equate to an additional € 720 billion over 12 months to March 2023 – similar in magnitude to the asset purchase announcement made at the height of the pandemic in March 2020 and equivalent to a third of all the assets that the ECB has purchased since 2014 for Date.
And that tally assumes eurozone inflation will stay at 2% by March 2023. If that is not the case, three more months would exceed the $ 1,000 billion mark – or $ 1 trillion mark. euros more in the six months following this.
At present, the market certainly does not see inflation at 2% over this horizon. The 5-year / 5-year euro forward inflation swap is still stuck at just above 1.5% – the main market-based indicator of long-term inflation expectations – and has not gone above 2 % since 2014.
But forecasters didn’t see this policy change coming either. Just last month, the ECB’s own survey of analysts expected the PEPP to end in March and the APP to remain unchanged.
Certainly, reports of splits within the board mean that such forceful directives could still meet resistance. And some expect the ECB to wait for a new forecast in September before being more specific.
PIMCO’s portfolio manager Konstantin Veit believes this week’s meeting will simply discuss necessary adjustments to the ECB’s language on interest rate guidance and its framework. In September, he sees a more modest “increase” of the APP to 60 billion euros per month while the PEPP ends with progress on inflation still “meager”.
Despite criticism of QE in other countries, there is no doubt that the ECB itself sees asset purchases as well as negative interest rates and forward guidance as effective tools to lower inflation. . A working paper released by the ECB last month concluded that euro area inflation would have been 0.75 percentage points lower than the 1.3% recorded in 2019 had these tools not been adopted during of the previous 6 years.
But for global markets as a whole, an additional trillion dollars, if not euros, of bond purchases by at least one of the “Big 4” central banks over the next two years may well. be seen as another supply shock of sorts.
With the ECB already buying far more bonds than underlying governments’ budget deficits create, the long-standing shortage of “safe assets” needed by banks, pension funds and insurance funds is likely to erode. ‘be considerably overwhelmed elsewhere – weighing down bond yields everywhere.
Even if the Fed starts cutting its QE, the ECB doesn’t look like it’s going anywhere for a long time.
by Mike Dolan, Twitter: @reutersMikeD. Graphics by Saikat Chatterjee. Editing by Jane Merriman