Christine Lagarde (R), President of the European Central Bank (ECB), and Vicepresident Luis de Guindos (L)
Thomas Lohnes | Getty Images News | Getty Images
FRANKFURT — Despite the whole world preparing for a return of inflation, market participants in Europe are actually expecting the European Central Bank to keep its foot on the stimulus pedal this week.
Talk of a “taper” of pandemic-era bond purchases has reached a crescendo in many corners of the globe, but many believe the ECB will keep to its current path due to an uncertain economic outlook and to avoid an unwanted tightening of financial conditions.
“It is a close call, but we lean towards the ECB maintaining the pace of purchases,” said Mark Wall, a chief economist with Deutsche Bank, in a research note.
“The dovish tilt in ECB Governing Council commentary in the last couple of weeks — the doves have been dovish, the hawks have not been hawkish — implies that the Council is not in the mood to take risks,” he added.
Inflation has risen to levels not seen for a long time but the key questions are a) how reliable the data currently is as Covid-19 has changed consumption habits leading to a potential misrepresentation of the data? And b) how long will inflation be boosted by a post-lockdown effect?
“The re-opening of the economies will now bring many price mark-ups in the sectors hit the most by the lockdowns, be it as a result of regaining previous losses or passing through higher costs,” explained Carsten Brzeski, an ECB watcher with ING Diba, in a research note.
“The effects will be transitory but could last easily until next year’s summer, keeping inflation elevated for a while,” he said.
Recent economic data suggests that with the vaccination rollout and the easing of lockdown measures across Europe, the euro zone economy will rebound strongly starting in the second quarter of this year.
This might also lead the Frankfirst-based ECB to reassess the risk of the economic outlook from its “tilted to the downside” stance, to a “balanced” stance, according to Dirk Schumacher, an ECB watcher with Natixis.
The ECB at Thursday’s meeting will update its quarterly staff projections for inflation and growth, alongside its traditional rate decision and press conference.
“We also expect growth to be revised up slightly, mainly since the U.S. fiscal stimulus was not fully incorporated in March, while inflation this year and next could also be raised slightly,” said Anatoli Annenkov, an economist at Societe Generale, in a research note.
The key question is when the ECB will start to taper its massive stimulus program.
In the wake of the coronavirus pandemic, the ECB launched its Pandemic Emergency Purchase Programme, or PEPP, which buys bonds in the region to stimulate lending and fuel an economic recovery. It left that program unchanged at its meeting in March, with the target purchase amount still at 1.85 trillion euros ($2.21 trillion) — which is due to last until March 2022.
Most observers think it will start to taper in September, meaning it would then have ample room to explain its thinking during the Sintra central banking conference at the end of that month. But as always, withdrawing monetary stimulus is a tricky exercise and markets can react violently.
“The longer the ECB waits before it admits that the rationale to run its Pandemic Emergency Purchase Programme (PEPP) at full speed is no longer as strong as it was in March, the less gentle could the transition to fewer asset purchases be in the future,” adds Holger Schmieding, chief economist with Berenberg.