Eyes on ECB for hints on strategy rethink

FRANKFURT AM MAIN (AFP) – European Central Bank (ECB) watchers will eye the institution closely on Thursday for hints about its first “strategic review” in two decades, with no change expected in its ultra-loose monetary policy settings.

“The governing council is sure to leave the main policy settings unchanged,” predicted Andrew Kenningham of Capital Economics.

Those key parameters were last updated last September, when former ECB chief Mario Draghi lowered a key interest rate and relaunched “quantitative easing” (QE) bond-buying in the face of fierce resistance.

Since taking over last November, new boss Christine Lagarde has patched up some of the wounds torn open during that meeting and its aftermath.

But the lack of immediate movement on policy places all the more focus on the much-hyped review.

Economic headwinds could prompt the ECB to further loosen policy later this year, in the shape of a still-lower deposit rate or a faster pace of bond-buying. PHOTO: AFP

The last such exercise dates back to 2003, before the financial crisis shook the eurozone economy and pushed the ECB into unprecedented interventions to keep the show on the road.

Nevertheless, “expectations that the bank will unveil a detailed scope and timetable for its monetary strategy review… may be disappointed,” economist Kenningham said.

What’s more, as the probe is set to last for all of 2020, there is little foreseeable impact on policy.

Lagarde raised hopes as she took office that climate change could become a key element in the ECB’s thinking.

But she has also sought to temper expectations, recalling that “the central bank’s priority mandate is price stability”.

Areas where the bank could act include “greening” its QE asset purchases, which have so far amounted to more than EUR2.6 trillion since 2015.

Buying bonds certified as fulfilling environmental standards could pose policy challenges.

“Given Germany has reduced carbon output less than other countries, would the ECB buy smaller quantities of its bonds?” asked Economist Bruno Cavalier at Oddo BHF.

Until now, the ECB has bought bonds in proportion to member countries’ share in its capital.

What’s more “what happens to ‘green QE’ when monetary policy is tightened?” he asked.

In the long term, policy tightening would mean the ECB is not only ending purchases but winding down its stock of assets.

If the bank were to become a large holder of green debt in the meantime, that could sharply disrupt markets for the instruments.

The long timeframe for the review will allow Lagarde to kick such questions into touch for now, although she may offer hungry reporters some procedural details on Thursday.

In the meantime, the ECB’s lodestar will remain price stability – which it defines as inflation close to, but below two per cent. With eurozone inflation on the rise in December, to 1.3 per cent, and political risks from abroad clearing slightly, the ECB may be able to afford a spell of navel-gazing.

A United States (US)-China trade truce and clarity on the next steps in the Brexit process have dulled two of the most acute threats to the bloc.

Meanwhile at home, there are signs that the manufacturing recession that has plagued the single currency area in recent months may be bottoming out.

That leaves the way clear for the ECB’s interest rate on bank deposits in Frankfurt to stick at -0.5 per cent and QE bond purchases to continue at EUR20 billion per month.

An account published in last week of December’s meeting nevertheless showed governing council members “attentive to the possible side effects” of the stance.

Germany’s BdB banking federation calculates that negative rates cost the sector around EUR5 billion per year, prompting increasing numbers of lenders to pass them on to clients.

Meanwhile, economists continue to see risks lurking ahead despite the brighter outlook.

Economic headwinds could prompt the ECB to further loosen policy later this year, in the shape of a still-lower deposit rate or a faster pace of bond-buying.