Viewpoint: the ECB believes “the ball is now in the governments’

ECB – Mr. Draghi’s press conference supported our view that the ECB is waiting to assess market developments. After the “undisputable success” of the 36-month repos, the ECB believes “the ball is now in the governments’, and…

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especially in the other actors’, court”. In our view it is unlikely that the Bank could announce new non-standard measures in coming months. The ECB reasserted that the SMP is neither eternal nor without end, but did not indicate that it will be shelved any time soon. New macroeconomic forecasts are consistent with rates remaining at 1% for a long time. Greece – the positive outcome of the debt exchange does not solve the Greek crisis, but at least makes Greece a smaller risk factor for the future of the Eurozone.

– Mr. Draghi’s press conference supported our view that the ECB will now pause at length to assess the effects of the two three-year auctions. The ECB kept open all its options, but the rhetoric used by Draghi suggests that, barring extraordinary events, no new non-conventional measures will be announced in the months ahead. However, it should be stressed that the ECB will continue to satisfy demand for liquidity unlimitedly with its ordinary auctions until July (and, in our view, for the remainder of 2012). Rules on collateral will, where necessary, be potentially slackened further. Also, despite the  inactivity seen over the past three weeks, the SMP still hasn’t officially been declared closed, and may be reactivated if needed. At the same time, the improved macro picture and the new ECB staff estimates (see table) are consistent with rates remaining at 1.0%.

–  As regards the extraordinary operations, Draghi considers them an “undisputable success”, as they have removed tail risks, guaranteed ample liquidity to the banking system, and lifted refinancing risk for banks and, indirectly, for governments. As regards the impact on credit, Draghi observes that the second 36-month auction saw the participation of 800 credit institutions (of which 460 German), as opposed to 500 participants in the first. The hope is that the increase in the number of banks, probably of small size, may make the liquidity supplied more accessible to small and medium enterprises (particularly  affected by stricter credit conditions as bank loans are their main source of financing). Having said this, it will take time to assess the effects, probably not so clear, of the operations. The ECB believes that in
the wake of the marked improvement in market conditions and sentiment triggered by the operations, “the ball is now in the governments’, and especially in the other actors’, court to continue their reforms and repair their balance sheets”. The ECB is responsible for the liquidity of banks and acts as a lender of last resort for the banking system, but cannot, and is not called to, bear the burden of the balance sheet recapitalisation of banks.

–  No potential tightening of rules on collateral was discussed; in fact, as specified by Draghi, the rules may be further slackened if necessary. However, this does not seem to be on the cards for now, as only 53 billion euros in credits were issued under the new rules, of which 40 billion by French banks, already over-collateralised. Additional credit for what concerns Italian banks apparently amounted to only three billion euros.

–  Draghi stressed that concerns over the riskiness of the ECB balance sheet lack serious grounds, as they are not assessable in terms of assets as a percentage of GDP, but rather in terms of capital (currency and gold reserves), which is very substantial in the case of the Eurosystem (ECB and National Central Banks),  and certainly larger than the FED’s and the BoE’s. As regards the criticism made by the Bundesbank, according to press rumours, Draghi said he is in full agreement with the President of the Bundesbank on the need to respect the traditions and culture of the German central bank, and reminded that the decision on LTROs was taken unanimously.

–  According to Draghi, the balance of risks has improved significantly. He is confident that the “new fiscal compact” signed last week represents a pillar to guarantee  the consolidation of confidence, and declined to comment the Spanish Government’s decision to revise its 2012 Budget target shortly after the reaching of the agreement.  

–  As regards interest rates, we expect them to stay put at 1.0% for an extended period of time (at least until the first half of 2013), barring further negative developments in terms of the macro picture. ECB staff growth forecasts have been revised downwards on both 2012 and 2013, compared to December. On the inflation front, the ECB has raised the forecast range, more so in 2012 than in 2013. The central forecast sets inflation as 2.4% in 2012, and down to 1.5% in 2013. The upward revision of inflation estimates is mostly due to higher oil prices and to a weaker exchange rate compared to  last December. The underlying assumptions are for a price of oil of 115 dollars per barrel in 2012, down to 110 in 2013, with an exchange rate of 1.31 in 2012 and 1.32 in 2013.  

–  In its assessment of risks, the ECB believes  uncertainty over the growth scenario, and downside risks, have eased. Reduced downside risks to growth are the result of improved risk conditions, low interest rates, and resilient domestic demand.  Risks to the consumer price trend in the short term are skewed to the upside, due to lingering pressures from energy prices, to higher direct taxes and rising administered prices, although in the medium term risks to the consumer price trend remain compatible with the price stability target.  Significant economic slack, and in particular labour market conditions, suggest that domestic pressures on wages, costs and prices will stay modest in the medium term.


–  Greece – The good outcome of the debt exchange paves the way to the launch of a second support programme, which should be finalized next Monday by the Eurogroup. With the activation of the CACs, all the debt issued under the local law (177Bn euros) will be restructured, to which we have to add at least 20Bn of debt falling under other legislations. Juncker has already told the press that the preconditions set for the programme have been met. The size of the IMF contribution will probably be set later, on March 15, but some indication will be given to the Eurogroup before it convenes next Monday. Of course, this does not solve the Greek crisis and does not mean that the next reviews will be smooth. However, now the Greek crisis is a problem that has to be managed by a small number of players with high stakes (the Eurogroup, the ECB, the IMF and Greece itself) and the likely deviations from the best case scenario of fiscal consolidation will be dealt with more easily by rescheduling the repayment of official loans.


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