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Preview of the upcoming ECB meeting: Are new TLTROs necessary or not?
From the beginning of the new year, when it comes to the ECB policy stance, the discussions most often focus on the reasons, conditions and design of a new round of TLTRO round, long-term bank financing operations. After the massive asset-purchase program ended in 2018, basically meaning that ECB opened a new chapter of policy normalization, economic conditions in the Eurozone suddenly deteriorated as shown by numerous negative surprises in manufacturing and services PMI reports. This prompted the ECB to taper off rate hike discussions completely, while raising the need to offer some flexible easing measure to confront the downturn. The “candidate” supported by ECB members and markets which has reasonable impact on financial conditions and is safe to discuss in the current situation is TLTRO.
The latest meeting of the ECB offered few surprises, the guide to interest rates and reinvesting policy remained unchanged. Meanwhile, the Head of the ECB Mario Draghi and other officials became more concerned about the growing number of negative surprises in the data, especially in current corporate sentiments and their outlook, which slashed chances of the rate hike in 2019. After a short period of relief at the beginning of this year, Citigroup’s calculated economic surprise index resumed its decline in February and March:
It looks like that the ECB got some clues from Fed’s pessimism in January, which suddenly changed its tone in January due to the pressure of negative market expectations. Several ECB board members said that the economic slowdown may be stronger and longer than previously expected which shifted expectations for a rate hike to a more distant future, at least until 2020. At the last meeting, the ECB described risks as “tilted to the downside”, as compared to the previous wording “moving to the downside”, i.e. raising the degree of gloom relative to the pace of economic recovery. However, at the press conference, Draghi limited the impact of the bearish statement saying that the reassessment of economic conditions would not have monetary policy implications. On the front of ECB policy decisions, there is a consolidation of views that banks will probably need a new round of cheap funding (TLTRO). According to the latest data from Handelsblatt most members of the expert community, referred to as “ECB Shadow Council” considered that the ECB should extend long-term financing operations in order to maintain control over financial conditions, preventing their unwarranted tightening. It should be noted that the purpose of the community comments is to determine the preferred behavior of the regulator, and not to predict its decisions. At the last meeting of the ECB, the inflation forecast for 2019 was lowered from 1.6 to 1.4% and remained unchanged for the next year at 1.5%.
A useful indicator of the ECB’s readiness to continue normalizing policy will be the updated forecast for 2021. Lowering the long-term forecast means recognizing by the ECB that inflation is moving away from a convergence path with a target of 2%, which implies incline towards the measures. Within the limits of existing opportunities, this means a signal for a new round of TLTRO. At the last meeting, the ECB expected inflation to be 1.8% in 2021, and GDP – 1.5%.
Forward guidance with respect to rates is unlikely to change at this and subsequent meetings without visible signs of economic growth, so as not to complicate decision-making for the new head of the ECB. Recall that that Draghi’s term ends in the end of October this year.
The ECB rhetoric after the last meeting is full of doubts, both among dovish and hawks. Benoit Coeure admitted that the growth momentum is becoming less and less pronounced, the trajectory of inflation is less distinct, a new round of TLTRO may be needed and this point is included in the ECB agenda. Chief economist Pratt said that the short-term outlook is not particularly bright, but there are positive signs in the medium term. Ewald Novotny, one of the most eminent hawks of the ECB, said that the reasons for the slowdown in the economy can be transient and TLTRO should be probably delayed. He also noted that there are some discrepancies between market expectations and the ECB guidance, most likely pointing to an underestimation of the chances of a rate hike in the future. Draghi, speaking to Parliament, said that a significant monetary stimulus for the economy remains a necessary measure.
Here are the scenarios of the meeting and the possible reaction of EURUSD and European bonds according to ING:
Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.
From the beginning of the new year, when it comes to the ECB policy stance, the discussions most often focus on the reasons, conditions and design of a new round of TLTRO round, long-term bank financing operations. After the massive asset-purchase program ended in 2018, basically meaning that ECB opened a new chapter of policy normalization, economic conditions in the Eurozone suddenly deteriorated as shown by numerous negative surprises in manufacturing and services PMI reports. This prompted the ECB to taper off rate hike discussions completely, while raising the need to offer some flexible easing measure to confront the downturn. The “candidate” supported by ECB members and markets which has reasonable impact on financial conditions and is safe to discuss in the current situation is TLTRO.
The latest meeting of the ECB offered few surprises, the guide to interest rates and reinvesting policy remained unchanged. Meanwhile, the Head of the ECB Mario Draghi and other officials became more concerned about the growing number of negative surprises in the data, especially in current corporate sentiments and their outlook, which slashed chances of the rate hike in 2019. After a short period of relief at the beginning of this year, Citigroup’s calculated economic surprise index resumed its decline in February and March:
It looks like that the ECB got some clues from Fed’s pessimism in January, which suddenly changed its tone in January due to the pressure of negative market expectations. Several ECB board members said that the economic slowdown may be stronger and longer than previously expected which shifted expectations for a rate hike to a more distant future, at least until 2020. At the last meeting, the ECB described risks as “tilted to the downside”, as compared to the previous wording “moving to the downside”, i.e. raising the degree of gloom relative to the pace of economic recovery. However, at the press conference, Draghi limited the impact of the bearish statement saying that the reassessment of economic conditions would not have monetary policy implications. On the front of ECB policy decisions, there is a consolidation of views that banks will probably need a new round of cheap funding (TLTRO). According to the latest data from Handelsblatt most members of the expert community, referred to as “ECB Shadow Council” considered that the ECB should extend long-term financing operations in order to maintain control over financial conditions, preventing their unwarranted tightening. It should be noted that the purpose of the community comments is to determine the preferred behavior of the regulator, and not to predict its decisions. At the last meeting of the ECB, the inflation forecast for 2019 was lowered from 1.6 to 1.4% and remained unchanged for the next year at 1.5%.
A useful indicator of the ECB’s readiness to continue normalizing policy will be the updated forecast for 2021. Lowering the long-term forecast means recognizing by the ECB that inflation is moving away from a convergence path with a target of 2%, which implies incline towards the measures. Within the limits of existing opportunities, this means a signal for a new round of TLTRO. At the last meeting, the ECB expected inflation to be 1.8% in 2021, and GDP – 1.5%.
Forward guidance with respect to rates is unlikely to change at this and subsequent meetings without visible signs of economic growth, so as not to complicate decision-making for the new head of the ECB. Recall that that Draghi’s term ends in the end of October this year.
The ECB rhetoric after the last meeting is full of doubts, both among dovish and hawks. Benoit Coeure admitted that the growth momentum is becoming less and less pronounced, the trajectory of inflation is less distinct, a new round of TLTRO may be needed and this point is included in the ECB agenda. Chief economist Pratt said that the short-term outlook is not particularly bright, but there are positive signs in the medium term. Ewald Novotny, one of the most eminent hawks of the ECB, said that the reasons for the slowdown in the economy can be transient and TLTRO should be probably delayed. He also noted that there are some discrepancies between market expectations and the ECB guidance, most likely pointing to an underestimation of the chances of a rate hike in the future. Draghi, speaking to Parliament, said that a significant monetary stimulus for the economy remains a necessary measure.
Here are the scenarios of the meeting and the possible reaction of EURUSD and European bonds according to ING:
Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.