December 09, 2016
We are not getting into the silly linguistic debate of what we saw yesterday was tapering or not. The fact is that the QE programmes will continue until the end of 2017, and we expect that it will continue beyond that. It's a stock, not a flow effect, the constraint being the total availability of the stock. For the hawks, this was not a good day.
Mario Draghi's press conference after yesterday's ECB governing council meeting was unusually informative, as it shot down a number of speculative stories that had been doing the rounds in recent days (about the Italian banks) and weeks (about nonconventional monetary policy).
The governing council decided to leave interest rates unchanged, and to extend its asset purchase programmes beyond March going back to the original volume of €60bn net bond purchases each month, where net means in addition to the purchases necessary to make up for maturing bonds. The programme will in principle run all of next year, "or beyond, if necessary, and in any case until the Governing Council sees a sustained adjustment in the path of inflation." If anyone was expecting forward guidance about an end to the programme, they got the opposite.
"If, in the meantime, the outlook becomes less favourable or if financial conditions become inconsistent with further progress towards a sustained adjustment of the path of inflation, the Governing Council intends to increase the programme in terms of size and/or duration."
We quote this directly because the wording is crystal clear and leaves very little open to interpretation. Asked about tapering in the Q&A, Draghi said "tapering" means to reduce the volume of purchases to zero, which "has not even been on the table". Pressed on whether this means that not a single governing council member voiced a preference for tapering, Draghi's response was a curt "exactly." It really doesn't get any clearer than that. As to what it means for inflation to get back to target, Draghi recalled that the eurosystem staff macroeconomic projections expect inflation to reach 1.7% in 2009. Asked whether that was "close to but below 2%" he answered "not really". On that basis one might expect nonstandard monetary policy to continue into 2019 and beyond.
Now, it has been known for some time that the ECB would eventually run out of assets to buy, as a result of the interaction of a number of self-imposed restrictions on the asset purchases. Before yesterday's decision, the eurosystem only purchased bonds: with a yield to maturity above the deposit rate of -0.4%; with a maturity between 2 and 30 years; respecting issuer and issue limits of 33%; and respecting the capital key. The capital key restriction time-limits the public sector purchase programme as member states with the lower debt-to-GDP ratios have fewer bonds available for purchase. The issue limits cut this time by a factor of three. In addition, countries perceived as safe, like Germany, have had the yield of an increasing proportion of their bonds drop below the deposit rate. The governing council yesterday decided to relax the maturity and yield restrictions, but not the position limits or the capital key. Bonds with a maturity of between one and two years will become eligible, as will bonds with a yield to maturity below the deposit rate "to the extent necessary".
This decision tells us something important: the legal issues around relaxing the position limits, but especially the capital key, must have seemed unsurmountable to the governing council. They are the two restrictions most directly related to the prohibition of monetary financing and to the no-bailout rule. But if the goal was to allow the public sector purchase programme to run for as long as possible, lifting these two restrictions would have been the most effective, as Frederik Ducrozet (@fwred) also argued. We note that, in the Q&A after his press conference, Mario Draghi didn't really answer a direct question about the economic rationale for the new asset purchase rules.
The German reaction to these decisions was one of unbridled fury. Bundesbank chief Jens Weidmann voted against, according to Frankfurter Allgemeine, whose economic editor, Holger Stelzner, now accuses the ECB of having becoming a political central with the purpose of supporting Italy. And Bild has an angry front-page headline this morning, screaming: "0%. We savers are once again the fools".
We also have stories on the impact of the ECB’s decision on the repo market; on why the Five Star Movement will be the beneficiary of the Italian political crisis; on why the ESM is not the solution for Italian banks; on another moment of truth approaching in the Greek crisis; on Ukip targeting pro-Remain MPs in pro-Brexit constituencies; and on what's behind Mark Rutte's threat to veto the EU/Ukraine deal.