ECB Reiterates Pledge To Withdraw Stimulus Gradually Despite Record Inflation

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by Tyler Durden
Thursday, Feb 03, 2022 - 01:04 PM

Unlike the hawkish shock from the BOE earlier today, when the central bank was one vote away from an unprecedented 50bps rate hike (and even so, its 25bps hike was the first back to back rate increase since 2004), moments ago the ECB did not surprise and in keeping with most expectations as discussed in our preview, it maintained the path unveiled during its far more jarring December meeting.

Despite inflation unexpectedly hitting a record high yesterday, which fed market expectations for a first interest-rate hike in more than a decade this year, the ECB renewed its pledge to withdraw pandemic stimulus only gradually.  The Governing Council on Thursday reiterated that it will slow bond-buying across 2022 and end asset purchases entirely before raising borrowing costs.

While the central bank keeping rates unchanged - the deposit and main refinancing rates remained at -0.5% and 0%, respectively, as expected - the ECB...

  • Renewed its pledge to slow asset purchases over the course of the year.
  • Confirmed net buying under pandemic program will end in March,
  • Confirmed the plan to boost APP pace to €40BN in 2Q, and €30BN in 3Q
  • Repeated that Interest rates won’t rise until projections show inflation sustainably at 2% and underlying price pressures are consistent with that goal
  • Repeated that special conditions on long-term loans to banks will end in June

This is what the ECB's QT will look like:

Indeed, a look at the redline shows that there were virtually no changes between the Dec 16 and the Feb 3 statements:

Perhaps the most notable change above was that the ECB dropped "in either direction" after the sentence: "The Governing Council stands ready to adjust all of its instruments, as appropriate, to ensure that inflation stabilises at its 2% target over the medium term."

Affirming its gradual plan underscores the growing divergence with the more aggressive monetary-policy tightening under way in the U.S. and the U.K. Earlier on Thursday, the Bank of England lifted rates by a quarter point for a second straight meeting, in a close-run decision where four officials had sought an even bigger increase.

The ECB position also signals that policy makers in Frankfurt are sticking to their guns on elevated inflation abating once energy costs and supply-chain snarls ease. Prices jumped 5.1% last month -- more than double the 2% target.

Despite the ECB's dovish insistence, the market is saying that the central bank is wrong: while ECB President Christine Lagarde insists a rate hike is unlikely this year, money markets predict a 10 basis-point increase from the ECB by September and on Wednesday briefly brought that forward to July. They now see almost 30 basis points of tightening by year end. The euro declined and German bonds pared losses after the decision.

The focus for investors will be whether Lagarde reveals any signs of hawkishness at her news conference at 2:30 p.m. in Frankfurt.

According to Bloomberg, a key question for the ECB chief is how the ECB's latest projections stand up in light of this week’s data shock. Just two months ago, officials predicted inflation would return to 1.8% in 2023 and 2024. Any upward revision could mean the conditions for a rate hike are close to being met and may force policy makers to rethink their plans. New ECB projections are due in March.

During her press conference, Lagarde will need to strike a delicate balance between holding market expectations at bay while refraining from promises that may need to be walked back later. She’ll also need to address sources of heightened uncertainty. Record Covid-19 infections and persistent shortages of manufacturing components continue to provide headwinds, while an escalation in the standoff between the West and Russia over Ukraine risks holding back the recovery and stoking prices if energy supplies are hampered.

The euro-area economy isn’t starting 2022 on a strong footing, expanding by just 0.3% in the final quarter of last year. Germany, meanwhile, is on the brink of a second recession since the pandemic began after a surprisingly sharp contraction.