ECB’s Schnabel: Spreads Can Signal Fragmentation; ECB to Counter

11 May 2020

By David Barwick – FRANKFURT (EconoStream) – The European Central Bank is determined to counter fragmentation in the Eurozone and considers its Pandemic Emergency Purchase Programme (PEPP) ideally suited to the task, ECB Executive Board member Isabel Schnabel said Monday.

Speaking in an interview with Italian daily la Repubblica, Schnabel, according to a text provided by the ECB, reiterated the ECB’s willingness to modify the PEPP’s volume and duration.

Asked whether the ECB saw the closing of spreads as its task, Schnabel said that when these diverge, it often indicates fragmentation, which impedes monetary policy transmission.

“We are committed to countering such fragmentation with appropriate policy measures,” she said. “And the PEPP is the right policy tool in this respect. It prevents self-reinforcing spirals and fire sales in sovereign debt markets.”

The PEPP allows purchases to be tailored as the ECB sees fit with respect to timing, asset classes and jurisdictions, and can be adjusted if needed in terms of duration and size, she said.

She rejected the idea that the ECB had done too little, calling its decisions a “powerful package”.

“We could rapidly scale up our measures, for example by expanding our purchases of commercial paper, or by adjusting our operations with banks,” she said. “Overall, the impact of our measures is substantial. And we will expand all of our measures further if and when warranted.”

The ECB on April 7 decided on a series of measures to make it easier for banks to finance their lending to the real economy, in the process issuing to Greece a waiver making its sovereign debt acceptable collateral for the Eurosystem. A second set of temporary measures was decided on April 22 to cushion the impact on collateral eligibility of possible rating downgrades in the aftermath of the pandemic.

Referring to the Greek waiver, Schnabel said this “reflects the unprecedented severity of this crisis.” The ECB’s adjustment to its collateral framework was the only way in which the ECB has addressed rating downgrades so far, she said about potential junk bond purchases: “We have not yet discussed the impact of potential rating downgrades on our purchase programmes.”

Schnabel assured that a country in need of funding from the European Stability Mechanism (ESM) would not automatically have to satisfy an economic adjustment programme, and that Europe’s leaders are well aware that now is not the time for austerity.

She reminded that participation in an ESM programme was a necessary but not a sufficient condition for activation of the Outright Monetary Transactions (OMT) program, under which the ECB can buy a euro area member state’s sovereign debt on the secondary market.

Activation of OMTs “is a decision by the ECB’s Governing Council,” she said. The PEPP was a deliberate choice and is “tailor-made for this particular type of emergency.” Schnabel last month had said the OMT programme remains “an essential element of our policy toolkit, but they are not the most suitable instrument to counter the current crisis.”

With regard to the May 5 decision by Germany’s constitutional court declaring partly unconstitutional ECB bond purchases made during the euro crisis under the Public Sector Purchase Programme (PSPP), Schnabel reminded that the ECB and its actions are the province solely of the European Court of Justice, which had found those purchases to be legal.

“As stressed by the ECB’s President, we are undeterred in our willingness and ability to act,” she said. The ECB would continue to use the PSPP, the PEPP and its other measures consistent with its mandate, she said. “This message also seems to have been well-understood by market participants.”