As expected, the ECB kept policy unchanged on Wednesday. The market will be looking for comments from Mario Draghi on the bond market rout that began around a week after the ECB chief’s April presser and seemed to contradict the idea that PSPP is not creating distortions in sovereign debt markets.
It’s possible to spin the upward pressure on yields as a sign that QE is working, as the market reassess inflation expectations in light of new data, although the severity of the intraday moves seems to underscore declining liquidity resulting — at least partly — from central bank purchases.
While it’s possible Draghi will discuss QE exit strategies, he will likely stay on message for the most part, reiterating the importance of implementing the program in full in order to ‘ensure’ that inflation can recover to at or around 2%.
Draghi may also mention Benoit Coeure’s “Yellen moment”, although primarily in the context of how the bank plans to proceed with front-loading and dynamic tapering in months when net EGB supply is expected to come in negative.
Questions about Greece may indeed come up, especially regarding the ECB's support for Greek banks.
Any adjustments to economic forecasts are expected to be minor.
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With deflation fears largely averted, we expect no policy action from the ECB today and only small adjustments to staff projections. Most of the interesting points are likely to emerge during the press conference, with questions focused on the solvency of Greek banks (especially in case of the potential impairment of Greek public debt), the ECB’s communication policy (following the recent Coeuré incident), reasons for the bond sell-off, the inflation outlook, coming after the higher than expected May printings, and possibly views on exit strategies for the ECB. The Greek issue reached a turning point yesterday. Indeed, the news flow suggests that Greece creditors (the Institutions) have agreed on a joint proposal to be made today to the Greek government. However, concerns remain that some elements could lead Athens to reject the proposals as Alexis Tsipras also submitted his own set of proposals yesterday.
We expect three key messages from the ECB press conference. First, the commitment to QE remains strong. Second, the ECB will implement QE flexibly. Third, the ECB will sound tough on Greece. Greece is likely to be a key talking point. A Staff Level Agreement (SLA) had not been reached at the time of writing, but the risk of a non-payment on 5 June is receding. Greece has the right to delay the IMF payments to month end. End-June, we believe, would represent a harder deadline for Greece. In the absence of an SLA by then, the ECB could be forced to take a much tougher stance on Greek liquidity.
We do not expect new information regarding monetary policy, especially after board member Benoît Coeuré already announced two weeks ago that the central bank would frontload its asset purchases ahead of the holiday period. Moreover, although Greece will likely be in the spotlight during the Q&A, we do not expect any breakthrough in the ECB’s position, especially since negotiations between the institutions and the Greek government are in a crucial phase. During the press conference, ECB President Mario Draghi will present the updated macroeconomic forecasts of the staff. We do not expect any significant revision from the projections presented in March. Annual inflation for 2015 is, however, likely to be revised up slightly (a couple of decimal points from 0%), as oil prices have been higher during the past three months than had been envisaged at the time of the March projections. Of course, the Governing Council will probably hold a discussion about the implementation of its Asset Purchase Programme, and in particular the PSPP, which is entering its fourth month. We think it is still premature to draw final conclusions on whether or not QE will be successful, but we believe it is on track for now. However, following many years of QE in other countries (in the US and the UK in particular), there are still many disagreements as to whether or not QE worked in these jurisdictions and, if it did, when it started to do so.