ECB’s Schnabel: Asset Purchases to Remain Crucial in the Time to Come

20 September 2021

By David Barwick – FRANKFURT (Econostream) – The European Central Bank’s asset purchases will continue to play an essential role beyond the pandemic, Executive Board member Isabel Schnabel said on Monday.

In a speech and subsequent panel discussion at a conference of the Latvian central bank, Schnabel said that there was no clearly defined definition establishing an end to the pandemic, and repeated her words of encouragement concerning inflation.

‘Given the remaining uncertainty regarding the pandemic and the economic and inflation outlook, our asset purchases – both under the PEPP [pandemic emergency purchase programme] and the APP [asset purchase programme] – will remain crucial in the time to come, paving the way out of the pandemic and towards reaching our inflation target’, she said.

The decision regarding the future of the PEPP ‘depends on how the pandemic develops’, she said, and ‘there are no clear criteria when the pandemic ends.’ The decision would be made in the coming months, she said.

Asked whether the PEPP would end according to current schedule next March, she avoided a direct answer, saying merely that ‘overall, what we are seeing is in line with projections’ and ‘the recovery is well on track’.

With respect to inflation, about which Schnabel had recently sounded optimistic, ‘we are seeing some encouraging signs’, she said. As before, she hesitated to identify upside risks, affirming instead that ‘what we see at the moment are upside chances.’

Monetary authorities ‘are watching the risks very carefully’, but ‘still are more concerned about inflation being too low’ rather than too high, she said.

Schnabel noted in her speech that part of the signalling effect of asset purchases is based on markets’ assumption that net asset purchases would end before the first rate hike, as doing otherwise ‘would expose the central bank to significant losses on its balance sheets.’

‘This means that, as the inflation outlook brightens, it becomes less important how much a central bank buys or when a reduction in the pace of net asset purchases starts, but rather when such purchases end’, she said. ‘It is the end date which signals that the conditions for an increase in policy rates are getting closer. The precise sequencing and timing will, of course, require careful guidance when the time has come.’

The ECB’s new forward guidance has reduced uncertainty about the future course of monetary policy, she said, with markets associating a lower degree of tightening with any improvement in the medium-term inflation outlook.

Noting that option prices implied a 40% probability of average inflation above 2% over the next five years, she said this was ‘consistent with our pledge to act more patiently – that we want to see clearer signs that inflation is reliably moving towards our 2% target.’

‘As such, our new forward guidance has significantly enhanced clarity around our reaction function and has thereby helped anchor long-term rates at current low levels by reducing the uncertainty around the future course of monetary policy’, she said.

In the early phase of the pandemic, PEPP purchasing deviated substantially from the ECB’s capital key, she said, ‘[b]ut these deviations receded swiftly. Over most of the PEPP’s lifetime, purchases have been conducted according to the capital key.’

Nevertheless, the possibility of buying flexibly remained important, as it ‘ultimately provided a backstop that prevented fragmentation risks from resurfacing in the first place’, she said.

The €4.4 trillion in securities on the ECB’s balance sheet would ensure ‘no undue or premature decompression of the term premium,’ she said. Simulations confirm that ‘[e]ven in three to five years’ time, our joint PSPP and PEPP holdings can be expected to put sizeable downward pressure on interest rates across the maturity spectrum’, she said.