The European Central Bank is all but certain to maintain a generous flow of stimulus when policymakers meet on Thursday, fearing that higher borrowing costs could smother a still nascent recovery.
Just emerging from a pandemic-induced double-dip recession, the 19-country euro zone economy has relied on unprecedented ECB stimulus to stay afloat. And even as growth surges with the easing of COVID-19 restrictions, policymakers appear keen to err on the side of caution.
Recent comments from ECB President Christine Lagarde and board member Fabio Panetta suggest the June discussion effectively ended even before Thursday’s meeting, with a cut in bond purchases unlikely, even if policymakers acknowledge an improvement in growth prospects and the rapid pace of vaccinations.
Panetta flatly rejected any reduction in emergency bond buys while Lagarde said it was “far too early” to discuss tapering the bank’s 1.85 trillion euro Pandemic Emergency Purchases Programme (PEPP).
While policymakers could still opt for a different course, they usually line up behind their president and rarely make changes to proposals brought to the table by the six-member Executive Board.
Weak medium-term inflation prospects are the key rationale for maintaining copious support but policymakers are also concerned that borrowing costs are inching up, so that any retreat by the ECB might risk setting off potentially dangerous market volatility.
“The longer the ECB waits before it admits that the rationale to run its Pandemic Emergency Purchase Programme at full speed is no longer as strong as it was in March, the less gentle could the transition to fewer asset purchases be in the future,” Berenberg economist Holger Schmieding said.
“If so, bond yields could ratchet up more strongly after a while.”
Further complicating the picture, the ECB is likely to nudge up most if not all of its growth and inflation forecasts and could even upgrade its guidance on growth, declaring risks “balanced” to replace a long-standing line about downside risks.
Inflation is also surging and last month exceeded the ECB’s target of just under 2%, a mark it has undershot for most of the last decade.
But the economy will need another year just to grow back to its pre-pandemic level and the inflation jump is mostly a reversal of last year’s energy price plunge, not the start of a new era of price pressures, policymakers have said.
Underlying price pressures, a key focus for the ECB, remain anaemic and wage growth is weak, pointing to excessively low inflation for years to come.
Europe is also far behind the United States in its recovery so any withdrawal of support ahead of the Federal Reserve would be seen as a dangerous signal.
U.S. inflation data, due to be published at 1230 GMT, is expected to show a 4.7% increase in prices last month, up from 4.2% in April, with a stronger reading likely to reignite speculation about fewer bond purchases from the Fed.
Wholesale prices in both Japan and China rose at their fastest pace in over a decade due to surging commodity prices.
“Given the markets’ nervousness about taper talk and the ECB’s firm wish to distance itself from the taper preparations in the U.S. over the summer, the ECB is likely to signal unchanged purchases until September,” Anatoli Annenkov, an economist at Societe Generale said.
But the end of the emergency buys is coming and policymakers are unlikely to enlarge the scheme or extend it beyond its scheduled end in March 2022, given the economy’s solid rebound, economists polled by Reuters said.
That will put pressure on policymakers to start plotting a course beyond the emergency bond buys. Some signals of that could come as soon as September, economists say.
As medium-term inflation prospects remain muted, decreasing buying under PEPP is likely to be accompanied by an expansion of the ECB’s less flexible but open-ended Asset Purchase Programme and signals that some ECB support, even if less generous, will continue well into the future.
The ECB will announce its policy decision at 1145 GMT, followed by Lagarde’s news conference at 1230 GMT. With Thursday’s decision, the bank’s deposit rate, its benchmark, will remain at minus 0.5%.