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Policymakers at the European Central Bank (ECB) are preparing for a difficult discussion at the upcoming monetary policy meeting in June. The subject is whether they should begin to reduce their emergency bond-buying program.
Last week, the Governing Council’s session concluded with no changes to the existing policy. However, according to officials, the next meeting, scheduled for June 10th, is speculated to be much more hostile. This is down to conflicting opinions on how to move forward with the crisis program that is currently in place.
The ECB’s Governing Council includes six members from the Executive Board and the governors of the national central banks of the 19 eurozone countries. Among them there are those prepared to argue that the pandemic emergency purchase programme (PEPP) should be scaled back in the third quarter. These members believe that the economy is on a solid recovery path that will peak in the second half of the year. Doing so would keep the total size of bond-buying within the planned €1.85 trillion ($2.2 trillion) envelope that was planned for until March 2022.
However, other members feel differently. Believing a more cautious approach is the way to go. One that does not commit the ECB to stick to the limit that is in place. This gives the European Central Bank more flexibility in case it needs to respond to further economic weakness.
Last Thursday, ECB President Christine Lagarde said, “preserving favourable financing conditions over the pandemic period remains essential to reduce uncertainty and bolster confidence.” She then pointed out that “incoming economic data, surveys and high-frequency indicators suggest that economic activity may have contracted again in the first quarter of this year, but point to a resumption of growth in the second quarter.”
Despite this, Lagarde added that it would be “premature” to make any new decisions on the policy at present and that the topic hasn’t been formally discussed.
Introduced in March 2020, the PEPP was put in place to address the rising bond yields in the eurozone. The Governing Council expects purchases under the PEPP to occur at a higher rate during the first quarter of 2021. Many countries have returned to lockdowns after a third wave of infections over the Easter period.
Data gathered from Deutsche Bank highlighted the ECB purchased €74 billion in bonds in March. This is up from €53 billion and €60 billion in the first two months of 2021. As well as this, Italian bonds have reversed gains, pushing 10-year yields up one basis point to a day-high of 0.77%.
The European Central Bank has spent almost €1 trillion so far under the PEPP. In March, it decided to increase the pace of buying. This was to protect the region from higher global borrowing costs, which is occurring due to the faster U.S. recovery. Since then, net purchases have averaged €17 billion a week. If this pace is maintained, policymakers will be faced with a tough choice later in the year. They can limit purchases heavily to keep the programs spending within the €1.85 trillion limit, risking market volatility, or they can prolong and expand the program.
Some countries are recovering better than others. For example, nations that rely on the resilience of the manufacturing industry, like Germany and France, can absorb more of the financial damage caused by the pandemic than those dependent on tourism and services.
A crucial decision will be made in the June meeting. Hope remains that the economy will regain its strength in the second half of 2021 and that inflation will remain below 2%. However, the ECB confirmed in a statement that if that does not happen, “the envelope can be recalibrated if required to maintain favourable financing conditions to help counter the negative pandemic shock to the path of inflation.”
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