The ECB got right to the point in the statement accompanying the bank’s final policy meeting of 2021. But to say the “devil was in the details” would be to materially understate the case.
“The Governing Council judges that the progress on economic recovery and towards its medium-term inflation target permits a step-by-step reduction in the pace of its asset purchases over the coming quarters,” the bank said, in the very first line.
It’s worth briefly recapitulating in order to frame December’s “taper” and confirmation that PEPP (the pandemic QE program) will end in March.
At September’s meeting, the ECB attempted what I characterized as a “sorta taper.” The bank tipped a “moderately lower” pace of purchases under PEPP compared to the previous two quarters, a notable semantic shift given that during Q1, the bank employed language telegraphing a “significantly higher” pace of PEPP buying in order to bring down bond yields, which were surging globally at the time. At the last meeting, in October, the bank kept the “moderately lower” language.
Fast forward to December and, as expected, the ECB said net purchases will continue at a “lower” rate (they dropped “moderately”) under PEPP until its expiration date three months from now. The figure (below) gives you a sense of things.
Notably, the ECB announced an extension of the reinvestment horizon for purchases made under PEPP. Principal payments from maturing assets bought under the program will be reinvested until “at least” the end of 2024. That was a one-year extension from the previous reinvestment guidance around PEPP.
That’s key because, in the ensuing paragraph, the ECB laid out a plan to effectively manage spreads (in the name of keeping the monetary policy transmission channel free from obstructions) using the reinvestments.
“The pandemic has shown that, under stressed conditions, flexibility in the design and conduct of asset purchases has helped to counter the impaired transmission of monetary policy and made efforts to achieve the Governing Council’s goal more effective,” the ECB said, adding that,
Within our mandate, under stressed conditions, flexibility will remain an element of monetary policy whenever threats to monetary policy transmission jeopardize the attainment of price stability. In particular, in the event of renewed market fragmentation related to the pandemic, PEPP reinvestments can be adjusted flexibly across time, asset classes and jurisdictions at any time.
In other words, if spreads were to balloon to undesirably wide levels in the periphery, the ECB can simply shift PEPP reinvestments around to tamp them down.
Last weekend, the FT reported that Greece was “planning an appeal for the country’s bonds to remain eligible for new ECB purchases after March” when PEPP ends. “Several members of the ECB’s governing council said they were amenable to finding a way to keep buying Greek bonds for the rest of next year,” the linked article said.
And they did find a way. Through PEPP reinvestments. The statement specifically addressed Greece as follows:
This could include purchasing bonds issued by the Hellenic Republic over and above rollovers of redemptions in order to avoid an interruption of purchases in that jurisdiction, which could impair the transmission of monetary policy to the Greek economy while it is still recovering from the fallout of the pandemic.
I’d reiterate a favorite talking point: Nowhere is it more apparent that asset prices are administered in the post-financial crisis world than in periphery EGBs. The December ECB statement effectively made it official.
Additionally, the ECB was careful to note that net purchases under PEPP could also be restarted “if necessary” should the pandemic create additional “shocks” to the eurozone economy.
There was more. The pace of “regular” QE (APP) will be doubled starting after March (i.e., when PEPP ends) to €40 billion, a pace which will persist over Q2, before falling to €30 billion starting in Q3. “From October onwards,” monthly bond buying under APP will fall back to €20 billion or, more to the point, to current levels.
Amusingly, the ECB characterized that as “in line with a step-by-step reduction in asset purchases.” So, doubling regular QE is consistent with reducing bond-buying, because i) a separate bond-buying program is ending at the same time the pace of the regular bond-buying program will be ramped up, and also because ii) the increased pace of regular bond-buying will eventually be pared back to the current pace, and then run in perpetuity. As ever, principal payments from maturing securities under APP will be reinvested. Also in perpetuity.
Meanwhile, the ECB revised its inflation forecast for 2022 markedly higher, where “markedly” means from 1.7% to 3.2%.
As a reminder, inflation ran at 4.9% in November (figure above). That was a record, and it exceeded all forecasts from more than three-dozen economists who ventured a guess.
According to the new staff projections, HICP inflation will be “stable at 1.8%” in 2023 and 2024, helped lower, one assumes, by the ongoing monthly purchase of billions in assets and the “in-full” reinvestment of principal payments from all currently held assets, “at least” until the end of 2024 for one QE program and, in the case of the other one, until some undefined date in the future.
During her press conference, Lagarde acknowledged that “there is possibly an upside risk” to inflation.
And here I thought Fred Astair had passed from this earthly realm. Some kind of tap dancing in the EU.
Higher inflation and faster growth good! Fed and central banks that observe slow steady tightening will be fine. If they go too fast they will almost certainly be whipsawed by collapsing growth. Its all good- except for the supply chain which is out of the FOMC and other central banks control- unless we want a recession to clear it up.