Muddlenomics not enough

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Ruben Segura-Cayuela, chief European periphery economist and Bank of America Merrill Lynch looks at the potential ECB policy to come.

Last week, Draghi’s speech at Jackson Hole delivered the message that coordination between monetary policy, fiscal policy and structural reforms is necessary to pave the way to sustained growth. Together with these considerations, we see some steps in the right direction (e.g. in France and Italy). But these are baby steps and it is hard to see more being delivered at this point by either national governments or the EU.

In the next few months it will up to the ECB to push the euro area, at least temporarily, away from this very fragile outlook. We think the ECB is likely to do so, although we still don’t expect this to happen in September, and it is not clear to us whether it will be ambitious enough. In any case, it is still an open question whether others will be able to act on the extra time provided by the ECB.

In this context, next week ECB meeting will draw all attention. As we have argued before we think that ABS purchases will take place (likely before year-end), and that QE could become a reality before June next year. We do not rule out smaller measures in September, such as fine-tuning the upcoming TLTROs or a detailed timeline of how and when ABS purchases could take place, given the need to deliver after the market’s reaction to Draghi’s speech.

We could even get some small purchases being announced in September, but this would not be a major innovation without a clear timeline of what may come next. However, in our view, none of these would change the outlook substantially. More details:

  1. We believe Draghi will not be able to convince the governing council to adopt broad-based QE just yet. Upcoming (announced) measures, inflation print this week, improvement in M3 all give excuses to the hawks.
  2. Regarding ABS QE, it makes sense only if it provides credit, capital and deleveraging benefits to the bank, and any purchases in September could offer only funding. But this cannot be ruled out on the back of Draghi’s comments at Jackson Hole. Draghi could give us a timeline of when this might take place (perhaps end-Q4) and an idea of sizing. That said, most of the events that could lead to a powerful programme of ABS purchases are beyond the ECB’s control at this point.
  3. We could get be more generous TLTRO terms, 10 days ahead of the first auction. Several options are available: it could reduce the spread with MRO to 0, it could change the 7% threshold, or it could include securitization in the benchmarks to avoid hampering further securitization markets. This would not face much resistance at the council, in our view; it would make TLTROs more interesting for core banks, and fit well with Draghi’s statement at Jackson Hole.
  4. We do not think rate cuts are likely. Cutting rates now or suggesting possible rate cuts in the future risk a low take-up for the September TLTRO. A rate cut in September would also create further uncertainty about future moves. Draghi has stated twice that we are at the lower bound when it comes to rates, and only technical adjustments should be expected. Questioning this would also not help TLTRO take-up.


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