The meeting of the European Central Bank’s Governing Council on 20 July is expected to provide more guidance as to the rate at which the institution will taper its programme of asset purchases amid evidence that economic growth in the eurozone continues to improve.
Expectations vary, yet there is considerable expectation that the Bank’s president Mario Draghi will provide further details to the market.
Arnab Das, head of EMEA & EM Macro research, Invesco Fixed Income, said that the central projection at his firm is “above trend eurozone growth, modest inflation and a gradually closing but still sizeable output gap in the coming months and quarters.” Given these expectations, Das said that the ECB has room to “signal normalisation of monetary policy, including a tapering of the Asset Purchase Programme and eventually rate hikes in 2018.”
“We expect more specifics to be revealed after this week’s Governing Council meeting – in line with the ECB’s past practice of signalling changes in its extraordinary monetary policy stance about a quarter before they take actual effect.”
“The forward guidance policy strategy helps prepare markets well in advance so that the changes can be “priced in” or provide time to alter communication if there are disruptive financial market movements – as we saw with the Fed and its relent as a result of the Taper Tantrum, and indeed on a smaller scale following Draghi’s Sintra speech.”
Franck Dixmier, AllianzGI global head of Fixed Income, said that although Draghi has begun to implement changes to normalise monetary policy, he is unlikely to say much at the meeting.
“The market’s reaction will dictate the speed of the journey towards normalisation.”
Yet, the ECB meeting is the first of three that the markets consider crucial in the calendar; Draghi is expected to speak at the Federal Reserve conference in Jackson Hole, and by the next ECB meeting in September Draghi will have the opportunity to communicate his long sought after path towards normalisation. The June ECB meeting in Sintra made it clear that Draghi is serious about reducing bond purchases, Dixmier added.
Didier Rabattu, head of Equities at Lombard Odier Investment Managers, sees a decline in deflationary risks leading to a reduction in monetary stimulus, albeit ongoing weakness in inflation suggests that stimulus may still be required.
“Continued concerns about the banking sector and the impact of negative rates on bank profitability add further weight to the view that stimulus is required to safeguard financial stability. A premature tightening in financial conditions would be negative for the recovery. In addition, given the current polarised environment, political considerations may also play a role a keeping the monetary policy easy.”
“We believe that the ECB should instead consider Japan-style yield-curve control to help banking sector profitability while still providing stimulus to the economy.”
Paul Shanta, portfolio manager, Old Mutual Absolute Return Government Bond Fund, Old Mutual Global Investors, said: “We believe that a tapering of the central bank’s asset purchases later this year or early next year is highly likely, given the healthy state of the euro area economy. The unemployment rate is falling rapidly, growth is robust – and crucially, as economic slack is eroded, we expect core inflation to rise.”
“Investors may need to wait a little longer, perhaps until the Governing Council’s meeting in September, for clear guidance as to when the ECB will start this process in earnest. Still, a significant hawkish turn is already priced into the euro rates market, with money-market forwards indicating that the central bank will conduct a series of interest-rates hikes over the coming four years.
“Inflation-linked securities tell a different story, however. The one-year, three-year forward euro inflation swap rate points to consumer prices rising at about 1.29% in the monetary bloc in the period between 2020 and 2021. This is significantly less than the ECB’s target inflation rate of below but close to 2%.”
Draghi will speak publicly following the Council meeting, and that can be followed live via a YouTube feed starting at 1.30pm CET at https://www.ecb.europa.eu/press/tvservices/webcast/html/webcast_pc_youtube.en.html