ECB Insight: Recent Convergence of Council Views Seen Continuing to Set the Tone

7 June 2022

By David Barwick – FRANKFURT (Econostream) – Speaking less than two weeks ago to Econostream, a European Central Bank insider jokingly commented that ‘it seems that we don’t even meet in June. It seems that everything is decided already.’


That person was speaking in the context not only of ECB President Christine Lagarde’s blog post, widely and justifiably described as surprisingly explicit, but also in light of the plethora of comments from Governing Council members that went, in his view, ‘consistently in the same direction, because you don’t see any big disagreement between their positions. You see different intensities perhaps, not really disagreement in terms of the move.’


All that granted, the Council’s June monetary policy meeting still promises to be an interesting affair in various respects.


A less interesting respect concerns the precise date as of which net asset purchases under the asset purchase programme (APP) will come to an end, a detail widely, even universally expected to emerge on Thursday.


After having reported already on March 11 that the programme could potentially end in the second quarter, we ultimately concluded that the difference came down to a matter of days and at that point was of little additional consequence for policy (we still think end-June makes more sense).


The issue is thus not whether the last purchase is made on June 30 or in the first half of July, as in any event the ECB will be in a position to increase interest rates as of the July 21 meeting. More intriguing is how lift-off will look and what we will find out about it ahead of time.


Amidst increased speculation about the possibility of a 50bp hike, we think that even if the Council is not inclined to go that route as of the moment, there is no reason now to take it off the table, just a week after Chief Economist Philip Lane made it clear that it was in fact an option, albeit one needing clearer justification than he was currently able to envisage.


One of the various conceivable compromises could involve deferring the larger step to September and being content with a ‘benchmark’-sized 25bp in July. But if the ECB wants to retain optionality – as opposed to sacrificing it on the altar of a dovish bias that has not served it well lately - then even in this case, it should make sense to leave July and for that matter September as well somewhat open.


Going much farther in terms of a commitment about September might be a bit much anyway under such extreme uncertainty, and by the same token, we don’t see Lagarde offering more in the way of forward guidance than her blog post already did. She will be similarly wary of specifying a neutral rate, not wanting to sound as though the ECB has its sights irrevocably set on a pre-determined target.


As in April, she will certainly deny that quantitative tightening is anywhere near to making it onto the agenda, an assertion for which she already has the solid backing of arch-hawk Klaas Knot of the Dutch National Bank.


And if Lagarde deems anything worth repeating, it will surely include the ECB’s attachment to the principles of gradualism, flexibility and optionality, along with the notion that the ECB is only normalising, not normalising.


More timely than ever as the ECB prepares to initiate its first hiking cycle in a decade, the subject of a new instrument to ensure that spreads don’t come unhinged is sure to come up.


Although the inauguration of such a tool might be seen in some quarters as the ideal accessory to an increase in borrowing costs – suggesting some possibility of a surprise announcement - we share the view of many or most observers that the ECB is not ready to introduce anything in detail, and will rely on assurances that it can and will rise to any occasion.


At the same time, we don’t exclude that Lagarde will say something about making more flexible use of redemptions from existing asset purchases other than those made under the pandemic emergency purchase programme (PEPP), which can already be reinvested very flexibly.


That the ECB’s updated macroeconomic forecasts will indicate lower growth and higher inflation this year and next seems a given in the eyes of most. There is a good chance that 2024 HICP, projected in March at 1.9%, will no longer be just under but instead right at the 2% marker defined as price stability, unless the ECB sees weaker growth and tighter (or more normal) monetary policy as keeping medium-term developments in check.


We would be inclined to expect a marginal increase for 2024 inflation, but as with the question of what day the last net asset purchases will fall on, do not want to ascribe too much significance to the issue. Insiders say results within a band of several tenths of a point are indistinguishably close anyway.


Finally, it will be interesting to hear how the unity of the Council is holding up at this decisive phase. We expect that the convergence seen recently will continue to set the tone, suggesting that Europe’s tightening cycle will start more smoothly than might have been anticipated not many months ago, but we also believe that it won’t take too long for the façade to show cracks.