Market Extra: ECB to end emergency pandemic asset buys in March, while Bank of England delivers ‘Super Thursday’ surprise
The pandemic isn’t over, but the European Central Bank is ready to start winding down the emergency support it provided through an aggressive plan of emergency asset purchases, though it also aims to soften the blow.
The ECB Governing Council on Thursday said it would slow the pace of asset buying under its Pandemic Emergency Purchase Program, or PEPP, in the first quarter, bringing the program to an end in March. At the same time, it moved to temporarily double purchases under its longer running Asset Purchase Program, or APP, partially offsetting the PEPP reductions. It also said it could restart emergency purchases in the future if conditions warranted.
The move contrasts with the Federal Reserve, which on Wednesday moved to fully wind down its asset purchases by March and penciled in three interest rate increases next year. It also stands out relative to the Bank of England, which earlier on Thursday surprised investors by becoming the first major central bank to lift rates since the pandemic, as it nudged its key benchmark up by 15 basis points to 0.25%. Norway’s central bank on Thursday also lifted rates.
The ECB, meanwhile, reiterated that it won’t interest raise rates until it fully winds down bond purchases, and ECB President Christine Lagarde continued to play down the prospect of any rate increase before the end of next year.
“As I have said before, it is very unlikely that that we will raise interest rates in the year 2022; that still stands, but we have to be very attentive to what data tell tells us, and we will do so,” said ECB President Christine Lagarde.
“Overall, this amounts to a very dovish taper,” said Nick Kounis, head of financial markets and stability research at ABN Amro, in a note.
The euro EURUSD, +0.13%, which has slumped more than 7% versus the U.S. dollar in 2021 and remains down 0.3% so far in December, was trading modestly higher on Thursday, up 0.1% at $1.1302. Italian and other so-called peripheral eurozone government bonds were pressured, with the yield premium demanded by investors to hold 10-year Italian government paper TMBMKIT-10Y, 0.972% over the 10-year German government bond TMBMKDE-10Y, -0.347% widening to around 133 basis points, or 1.33 percentage points, from around 128.2 basis points on Wednesday.
European equities were higher, with the Stoxx 600 Europe SXXP, +1.23% rising 1.4%.
As PEPP is wound down, the ECB said it would double the monthly pace of buying under its longer running Asset Purchase Program, or APP, to €40 billion ($45.3 billion) in the second quarter of next year, then scaling back to €30 billion in the third quarter and reverting to 20 billion euros in the fourth quarter and potentially beyond.
Not everyone saw the ECB’s moves in a dovish light.
That means the ECB will reduce its total net purchases from an average of €92 billion a month between September and November this year to less than half that pace by April,” said Andrew Kenningham, chief Europe economist at Capital Economics, in a note. “While this falls well short of the ‘full taper’ which the Fed has now stepped up, it is still a big reduction in policy support.”
The moves, however, were widely anticipated, he noted, though the reduction in purchases under APP to €20 billion a month in the fourth quarter of next year may have been a bit more hawkish than expected.
Lagarde acknowledged that the spread of the omicron variant of the coronavirus that causes COVID-19 injects uncertainty into the outlook, but also observed that the eurozone economy has become more resilient in the face of new variants. Meanwhile, ECB staff significantly lifted their inflation forecast, and are now looking for a rise of 2.6% in 2021, 3.2% in 2022, and then slowing to 1.8%, back below the target of 2%, in 2023 and 2024.
“First, and the good news; they set a very high bar for further upside surprises, which we think is very deliberate in the context of recent consensus-beating inflation data,” said Claus Vistesen, chief eurozone economist at Pantheon Macroeconomics, in a note.
“Secondly, and the bad news for bond markets; if the ECB is even close to being right — this is to say, if inflation comes in anywhere near expected next year — risks are now firmly tilted towards further upgrades to the 2023 and 2024 outlook,” he said. “This, in turn, invariably would kindle expectations of a withdrawal of stimulus, despite the ECB’s commitment today to ‘open-ended’ QE under the APP.”