Markets await ECB stimulus clues as eurozone bounces back

European Central Bank governors meet Thursday under pressure to clarify their stimulus exit plans, as the eurozone economy rebounds from the pandemic and inflation surges higher.

Revised figures this week showed the economy in the 19-nation club grew by a better-than-expected 2.2 percent between April and June after countries relaxed their virus restrictions.

The ECB now faces the tricky act of deciding when and how to scale back its massive pandemic support, and communicating it without jeopardising the recovery or spooking markets.

In the United States, where the recovery is seen as further along, the Federal Reserve has already signalled it could start withdrawing stimulus measures by the end of the year.

The meeting Thursday of the ECB’s 25-member governing council will be only the second since the Frankfurt institution slightly raised its inflation target, the first such change since 2003.

The bank is now aiming for inflation of two percent — instead of below that figure — and will tolerate a temporary over- or undershooting of the goal.

Eurozone inflation soared to three percent in August, the highest level in a decade, fuelled by one-off effects linked to the pandemic and global shortages of materials like semiconductors, plastics and steel.

ECB president Christine Lagarde has previously promised to “look through” what the bank believes to be a temporary inflation surge, and policymakers expect consumer prices to rise further in coming months before falling back.

“We are more worried about the inflation rate being too low in the medium term rather than too high,” Isabel Schnabel, a member of the ECB’s executive board, said last month.

As a result, observers do not expect any changes to the ECB’s historically low interest rates or major tweaks to its colossal bond-purchasing programme, despite some more hawkish ECB members signalling a readiness to scale back stimulus. 

But economist Marcel Fratzscher of the Berlin-based DIW think-tank said the ECB would not want to tighten its ultra-loose monetary policy too soon, given the “uncertainties about the pandemic and the supply chain disruptions”.

– ‘Ducking the question’ –

Lagarde is expected to use her 1230 GMT press conference to stress the ECB’s cautious and flexible approach to supporting the recovery, at a time when the more contagious Delta variant is pushing up infection numbers across Europe.

Some observers say the ECB could however acknowledge the economic rebound by slowing the pace of the bank’s monthly emergency bond purchases — without framing it as a “tapering” or winding down of the scheme.

The 1.85-trillion-euro ($2.2-trillion) pandemic emergency bond-buying programme (PEPP) is the ECB’s main crisis-fighting tool, aimed at keeping borrowing costs low to stoke economic growth. 

The scheme, set to run until March 2022, comes on top of the ECB’s pre-pandemic asset-buying programme, currently running at a pace of 20 billion euros a month.

The ECB could start by “signalling a ‘modest’ slowdown” in the pace of the PEPP purchases, from 80 billion euros per month to 60-70 billion euros, said Frederik Ducrozet, a strategist at Pictet Wealth Management.

The ECB will also unveil on Thursday the latest quarterly growth and inflation forecasts, with some slightly upward revisions expected.

The inflation projections for 2022 and 2023 — currently at 1.5 percent and 1.4 percent respectively — are nevertheless expected to remain well below the bank’s 2.0 percent target.

“More inflation, more growth but also more uncertainty,” said Berenberg Bank economist Holger Schmieding.

“Against this backdrop the European Central Bank will probably still duck the major question,” he said. “When will the ECB taper its bond buying in earnest?”

Fritzi Koehler-Geib, chief economist at German public lender KfW, said she expected concrete decisions “only in December”.

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