The ECB will meet again this Thursday, October 29 and, although the consensus from analysts does not foresee that either the official interest rate or the deposit facility will vary, the deteriorating situation in Europe due to the second wave of Covid-19 leads to the expectation of the announcement of further fiscal stimulus in the coming months. For this reason, we will have to pay close attention to the vision of the European Central Bank on the recovery of the European economy and its possible actions in the short and medium term. AXA IM, MFS IM, PIMCO, and Allianz GI provide us with their predictions ahead of tomorrow’s meeting.
Gilles Moëc, Chief Economist at AXA IM
The ECB is meeting this week facing a deteriorated outlook. Inflation continues to disappoint relative to both their target and their latest forecast, and the combination of bad news on the pandemic side and soft economic data – materializing faster than in our already quite bearish baseline – would normally call for more policy action quickly. Several elements still make it likelier the governing council will prefer to wait until December for its next move.
First, by December the central bank will have more visibility on external risks. The governing council is probably largely agnostic on how the victory of any of the contenders to the US presidential elections would affect the European outlook, but the volatility and added uncertainty which would come with a contested result would matter. Moreover, by the December 10th meeting, we will know if a deal has been agreed between the UK and the EU.
Second, market conditions have improved, allowing the ECB to significantly reduce the pace of its Pandemic Emergency Purchase programme in September. With the Italian sovereign spread falling, the central bank has even felt comfortable enough to reduce the share of its purchases going to this crucial peripheral sovereign. This mechanically reduces the pressure on the ECB to reveal how it intends to recalibrate the PEPP (at the current pace the envelope would not be spent before the end of the summer of 2021). We note also that the appreciation in the euro has stalled, reducing the pressure on the ECB to adjust monetary policy quickly.
Still, we think the market would be disappointed this Thursday if it does not get a clear hint at more action in December. The deterioration in the economic outlook will mechanically push public deficits up, via automatic stabilizers and the necessity to prolong costly emergency fiscal support schemes. Sovereign issuance will rise sharply which would normally call on the ECB to increase its own absorption capacity. Maybe more fundamentally, given Christine Lagarde reaffirmation, in her speech at the ECB Watchers Conference, of the absolute necessity for the central bank to do whatever is needed to fulfill its mandate, a downward revision in the outlook cannot be left unaddressed without another tweak in the policy stance.
Peter Allen Goves, European Interest Rate Strastegist at MFS Investment Management
No major change in policy is expected, but mounting risks mean more easing is likely at subsequent meetings in our view. Before acting further, the ECB looks may want to wait until the next set of staff projections (in December) and take stock of unfolding events.
The main downside risks concern how renewed Covid-19 concerns are likely to weigh on the economic outlook together with the subdued inflation backdrop. We live in a world where despite record levels of monetary support, the last HICP print was -0.3% YoY in September (with core at 0.2% YoY). Meanwhile the ECB’s own forecasts for long-term inflation are below target and market based inflation expectations remain subdued.
There is likely to be further acknowledgement of how the ECB welcomes the EU’s fiscal initiatives. Lagarde herself at the last meeting stated that “regarding fiscal policies, an ambitious and coordinated fiscal stance remains critical”. The President also talked again of the dual mandate of PEPP and how one of its key functions is to stabiles markets and ensure a smooth transmission of ECB policy.
For markets, this means core European rates will likely remain low because of the strength of forward guidance, powerful policy signals and the overall accommodative policy stance. The flexibility of PEPP remains key and has been successful in mitigating against unwarranted market fragmentation and in guarding against any tightening of financial conditions. Given the likelihood that ECB accommodation is ongoing, EGB spreads look to remain contained for the foreseeable future.
Konstantin Veit, Senior Portfolio Manager at PIMCO
The ECB Governing Council meets on Thursday and we expect no changes to monetary policy. Looking ahead, we continue to expect the Council to upsize and extend the pandemic emergency purchase programme (PEPP) again in December, from the current €1.35 trillion purchases through to end June 2021, as the inflation outlook fails to sufficiently converge towards the pre-pandemic configuration. The Council might use the upcoming meeting to prepare the market for further easing in December.
Inflation remains far below the aim and there has been only partial progress in combating the negative impact of the pandemic on projected inflation dynamics. In his Jackson Hole speech, Executive Board member Lane argued that “once the negative shock has been sufficiently offset, the second stage is to ensure that the post-pandemic monetary policy stance is appropriately calibrated in order to ensure timely convergence to our medium-term inflation aim.”
We expect the ECB to upsize and extend the PEPP as soon as the December meeting. An additional €600 billion of purchases, taking the PEPP close to €2 trillion and 17% of Euro area GDP, and extending purchases by six months to end 2021 appear reasonable. We continue to believe that, while the ECB will retain optionality and won’t officially rule out deeper negative policy rates, the ECB has a high bar for lowering interest rates further and as such see policy rates unchanged for the foreseeable future. The ECB’s current role is first and foremost to support fiscal policy, a role we believe best served via large scale asset purchases and generous liquidity provision to fund credit expansion.
Franck Dixmier, Global CIO Fixed Income at Allianz Global Investors
The tone of the European Central Bank (ECB) meeting on 29 October should be resolutely pessimistic. The ECB should underline the deterioration of the macroeconomic outlook due to the new restrictions arising from the worsening health crisis, and its concerns about a possible double dip for growth. The composite PMI, which combines the activity of the services and manufacturing sectors, stands at 49.4 in October, down from 50.4 in September and below the threshold of 50 which separates contraction from growth.
The central bank is also expected to reiterate its concerns about the inflation trajectory, already expressed in the minutes of its September meeting. Inflation remains far below its target levels – with a Consumer Price Index (CPI) at -0.3% over one year and a core CPI at +0.2% in September – and is likely to remain low throughout 2021 and even into 2022.
We still do not anticipate any new measures on 29 October, for three main reasons:
- At the December meeting the ECB is set to update its macroeconomic projections. We expect these to be pessimistic so it could be a good time to announce new measures of support.
- In December, the central bank will have more perspective on the political risks that have emerged in recent weeks – such as Brexit and the US elections – as well as on the evolution of the pandemic.
- Finally, the Pandemic Emergency Purchase Programme (PEPP) still retains its firepower, so there is no urgency to act now.
The extension of the PEPP is likely to provoke internal debates in the Governing Council of the ECB. Indeed, the old divide between doves and hawks has resurfaced. Christine Lagarde, who favours the search for consensus, will have a lot of work to do to settle an already old debate: there is a risk of an even more aggressive sovereign bond-buying policy being viewed as monetary financing of public deficits, which is prohibited by the treaties.
The markets, which lean slightly towards anticipating a rate cut, could be disappointed. But a strong message on future additional monetary measures should be favourable to a reduction of spreads on periphery bonds.