ECB’s Knot: Yields up on Better Growth Outlook, Higher Inflation Expectations

4 March 2021

By David Barwick – FRANKFURT (Econostream) – The starting point of the discussion about rising yields should be a positive interpretation of this development, European Central Bank Governing Council member Klaas Knot said Thursday.

In an online interview with Politico, Knot, who heads the Dutch National Bank, said, ‘The picture that emerges … is one that I would call cautious optimism, so there is reason to be optimistic about the second half of the year, when the lockdowns will be lifted.’

The stronger-than-expected rebound of the economy seen in 3Q of last year would hopefully occur again , he said. However, his attitude was one of ‘cautious optimism of course, because there are still these uncertainties around the vaccination progress and the uncertainties about corporate creditworthiness once we come out of this crisis, once this veil of uncertainty is being lifted.’

‘So I think what the market is actually doing is pricing that optimism’, he continued. When the Governing Council meets next week and discusses the increase in yields, he said, ‘I think the starting point should be that the rise in rates reflects better growth prospects and higher inflation expectations. And that in and of itself is a positive story.’

With economic weakness ‘entirely located in the services sector’, policy is already doing what it should be doing by supporting the incomes of affected service sector companies. Beyond that, the pandemic has to be overcome via vaccination, about which ‘there has been a little bit too much pessimism’, he said.

Once containment measures are withdrawn, the services sector should recover rapidly, he said, not being capital-intense and not having suffered destruction of productive capacity. The forced savings could lead to high spending, he said.

Knot said he did not see the economic crisis turning into a banking crisis because of firms becoming insolvent en masse and triggering an increase in non-performing loans. The current resilience of the banking sector was ‘one big difference with the previous crisis’, he said, making him ‘fairly confident that we won’t see the return of these financial amplification mechanisms’ .

‘So the banking sector is in much better shape, and I think this is what you are currently seeing’, he said. ‘That also means that the banking sector has been better placed to build defences against this inevitable rise in NPLs that will happen in the coming months and the coming quarters.’

Provisions have been made ‘quite aggressively’, forming a ‘first line of defence’ for banks, he said. Buffers are an additional ‘shock absorber’, he said. ‘Now, will it be enough?’ he asked. ‘Probably yes. If it wasn’t enough, there would probably be more anxiety already in the markets about banking resilience.’