By Steve Goldstein
You probably could’ve won a nice bet if you had wagered the European Central Bank would start reducing its asset purchases before the Federal Reserve would.
The economic data doesn’t really lend itself to the notion the ECB needs to start reducing stimulus before the Fed. U.S. inflation was 6.3% year-over-year in July, compared to the 3% year-over-year gain in August that Eurostat has reported for the euro area. And while the ECB doesn’t have the labor market in its mandate, U.S. unemployment was 5.2% in August, compared to 7.6% in July in the euro area.
Still, heading into Thursday’s European Central Bank meeting, economists are now expecting a modest reduction in the rate of bond purchases made using the central bank’s Pandemic Emergency Purchase Program.
“Data have been broadly in line with expectations, except for stronger inflation, and there is room for the ECB to spin a positive outlook in order to prepare markets for the inevitable tapering next year, a point clearly made by some hawkish ECB policymakers,” said economists at Societe Generale led by Michel Martinez.
“Financing conditions are not tightening. Inflation forecasts are rising, both near term and medium term. As such, not reducing the pace of PEPP purchases, at least somewhat, would raise questions about the credibility of the ECB reaction function, and potentially undermine the power of the new rates guidance in the process,” said economists at Deutsche Bank led by Mark Wall.
The chief economist of the ECB, Philip Lane, said a small reduction would be a “local adjustment” a nd not “pure tapering.” Holger Schmieding, chief economist at Berenberg Bank, said the ECB will scale back monthly PEPP purchases from €80 billion ($95 billion ) to €70 billion, or possibly as low as €60 billion.
This light reduction in asset purchases underscores expectations that the ECB will be more accommodative for longer than the Fed, even as it’s first to scale back stimulus. The euro /zigman2/quotes/210561242/realtime/sampled EURUSD -0.0443% has weakened 3% vs. the dollar this year.
The larger question facing the ECB is the fate of what’s called the Asset Purchase Program, which will continue even as the PEPP is due to be phased out in March 2022. Economists at ING are currently forecasting €314 billion of ECB bond purchases next year, against a supply increase of €500 billion for government, supranational and agency bonds.
Carsten Brzeski, global head of macro at ING, said Italian bond yields /zigman2/quotes/211347230/realtime BX:TMBMKIT-10Y +1.32% could easily top the recent 1.1% peaks depending on how the ECB frames its actions. “Should the ECB provide reassurances as to the future of the APP, the spike will prove smaller in magnitude, and be short-lived,” he said.