Will the ECB get some breathing room this summer?

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In June, the European Central Bank (ECB) expanded what was already a sizable asset purchasing program. As it has turned its back on further rate cuts, does it still have the policy ammunition needed to prop up one of the pandemic’s biggest economic victims?

The ECB has been adaptive in its emergency quantitative easing (QE) program as the economic toll of the pandemic continues to evolve, Mellon sovereign analyst Rowena Geraghty says. The program, officially known as the Pandemic Emergency Purchase Programme (PEPP), is focused on buying both public and private sector debt and has already absorbed 76% of the €46bn market that makes up the latter.¹

Like other global central banks in the midst of the coronavirus, the ECB continues to push the boundaries of what is considered conventional monetary policy,” she says. “It’s been providing monetary stimulus since the onset of the pandemic – with its PEPP, which has recently been expanded, beating expectations on both magnitude and duration.

A little history

First introduced in March, the PEPP originally outlined how the ECB would purchase €750bn (US$818bn) of debt by the end of 2020. This consisted of all eligible securities under its pre-existing asset purchasing programs, which focused on debt in the public and private sector, as well as asset-backed securities and covered bonds.²

In order to boost flexibility on what the ECB can purchase, the program waived eligibility requirements for Greek government debt and expanded permitted assets to include non-financial commercial paper on the corporate debt side.³ The new measures, deemed “temporary” by the central bank, were intended to last until the crisis phase of the virus was over—but not before the end of 2020. However, as the virus continues to take its toll, the central bank has widened its stance, according to Geraghty.

In early June, the ECB pledged an additional €600bn (US$672bn), increasing the programme to €1.35 trillion and lengthened its duration by six months, projecting it will conclude by June 2021 at the earliest.⁴ But despite the expansion, Geraghty says further increases to the plan may not occur because the ECB has other tools in its toolbox, which may allow it to avoid reverting to one of its most notorious measures.

The ECB maintains dovish language regarding future potential increases in QE but continues to provide additional and very inexpensive liquidity operations for banks,” she says. “However, it has not opted to cut interest rates, viewing this as relatively ineffective.

According to Geraghty, while it may be too early to say the ECB is running out of tools to hit its 2% inflation target, it may need to be more resourceful. “Therefore, it is seeking assistance from other authorities—such as the European Commission,” she says.

As a result, one of the biggest topics of discussion is how exactly the European Commission will step in.

Fiscal support

It started with a proposal by Germany and France. The two nations outlined plans for a €500bn (US$556bn) “Recovery Fund”, offering non-repayable grants to the European regions worst hit by the pandemic. The capital would be distributed through one common European budget, made up of contributions from all 27 member countries⁵ and ultimately raise common European debt to support the Eurozone’s economic recovery.

According to Geraghty, something like this would reduce pressure on the ECB, especially as the Eurozone economy is projected to shrink by one-tenth this year.

Taking its cue from the Franco-German plan—and then some—the European Commission proposed an even larger Coronavirus relief package, totaling €750bn (US$825bn). Of that, roughly €560bn is designated to go directly to governments between 2021 and 2024.  However, the plan still needs to be approved by different EU leaders, which is not expected until a special summit in late July.

However, Geraghty says the European Commission’s proposal seems unlikely to pass. There are already signs of disagreement between member nations on how much should be included in the bill as well as how it should be allocated —and because so much is still in limbo, it can be hard to tell how the final package will look. Despite this, Geraghty has a hunch it will look similar to the originally proposal.

While there are many competing version of the Recovery Fund being proposed by different actors, we expect the stimulus to look similar to that recently proposed by Merkel and Macron – a €500bn fund which includes grants for those countries most affected by the pandemic,” she says.

Because Chancellor Merkel will take the helm of the EU Council in July, she will likely use Germany’s role as chair of the rotating presidency to get an agreement on the France/Germany plan for the Recovery Fund, which will form a key part of her legacy before she leaves office next year.

¹Euromoney: First look at ECB PEPP debt-buying shows massive support for CP. June 3, 2020.
²European Central Bank: Asset Purchase Programmes. December 19, 2018.
³European Central Bank: ECB announces €750 billion Pandemic Emergency Purchase Programme (PEPP). March 18, 2020.
⁴MarketWatch: ECB expands PEPP asset-buying program to 1.35 trillion euros. June 4, 2020.
⁵CNBC: Europe is about to announce a new coronavirus stimulus package and it could move markets. May 26, 2020.

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