Viewpoint: The April meeting of the ECB should prove rather interlocutory

The April meeting of the ECB should prove rather interlocutory. The central bank will confirm that

no further 36-month LTROs are on the cards,….

For professional investors and advisers only

given the improvement in market conditions and the stabilisation of the scenario. Debate over the removal of extraordinary measures is legitimate, butchances of this happening are still remote, as the underlying economic situation remains fragile.

–  The April meeting of the ECB should prove rather interlocutory. Already on occasion of its  March meeting, the ECB had signalled it is waiting to verify the effects of its 36-month LTROs on market conditions and the credit trend. In recent weeks the ECB has confirmed this stance. Therefore, we continue to expect an extended pause in monetary policy actions, and no particular news should come from Frankfurt next week. In our view the ECB will not announce further 36-month auctions unless a catastrophic turn of events materialises. Indications in this direction have come from several members of the ECB’s Governing Council, the latest being Makusch (27/03/2012) of the Bank of Slovakia, who said that “the ECB considers what it has done to date sufficient, and is not planning a new round of three-year auctions.” Governor Draghi, in a recent speech on occasion of the annual meeting between the ECB and German banks (26/03/2012), reasserted that the ECB considers the overall picture to be clearly improving:  “there are signs of stabilisation in both financial markets and overall economic activity, albeit still at low levels”.
– We share the ECB’s position on the improvement of the balance of risks allowed by the auctions, and we believe that as uncertainty eases, the economy will stabilise, albeit at modest levels. We continue to forecast a moderate  recession in the euro area this year, and see a gradual return to positive growth only in 2013  (see below). However, the picture is a highly fragmented one, as growth is being driven by France, Germany and Northern European countries, whereas we expect severe recessions in Italy, Spain, Portugal and Greece. Risks to our estimates remain skewed to the downside, although they have eased significantly compared to three months ago.  In a context of below-trend growth, and with inflation in 2013 lower than 2%, with downside risks to growth and balanced risks for what concerns medium-term inflation, an interest rate hike does not seem to be on the cards before well into 2013. At the ECB’s latest press conference, emphasis was placed on the trend of consumer prices, but we believe the rhetoric was aimed at indicating that the ECB has not sidelined its price stability objective, despite the generous actions put in place to fight the systemic effects of the crisis. On this topic, in the speech mentioned above Draghi said that “we would expect an impact on inflation and asset prices only following a sustained and strong increase in money and credit – not following an increase in central bank liquidity per se”. And this is certainly not the case. The ECB has “a range of tools at its disposal to absorb excess liquidity”, if necessary.
– We do not think the April press conference will provide indications on the exit strategy from extraordinary measures, despite concerns in Germany for the increasing risks the ECB is facing as a result of its LTROs and the new rules on collateral. We believe Mr. Draghi will instead say that it is early days yet to think of an exit. The underlying picture remains fragile.  Full allotment will stay in place at least until July, and probably until the end of 2013 on ordinary operations. A step back on the new rules on collateral is unlikely, as Draghi himself stressed that  “the Eurosystem is being very careful to manage any risks: […] on the additional collateral presented so far, the average haircut is 53%”. It must be said that the decision taken by the ECB’s Governing  Council on 21 March that national central banks are not obliged to accept in repos bank bonds guaranteed by states that are involved in a EU-IMF assistance programme, should not be viewed as a restriction on collateral. We believe the decision relieves the NCBs of other euro area countries from the obligation, but does not limit the use of this instrument by domestic banks to access ECB funds.


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