ECB preview: Dovish tapering? - ING

According to Carsten Brzeski, Chief Economist at ING, today’s ECB meeting should finally provide the first details of the dovish tapering plans, ideally with as little noise as possible.

Key Quotes

“The state of the Eurozone economy has basically remained unchanged since the September meeting. Even though the results of the German elections have somewhat dampened the eu(ro)phoria of the summer months, survey indicators still point to a continuation of the recovery well into 2018. At the same time, inflation and inflation expectations remain low and clearly below the ECB’s own target. As all other central banks, the ECB is probably still chewing on whether factors like globalization, ageing and digitalization can really still be called transitory or have become rather structural, with a permanent disinflationary pressure.”

“Even though inflation developments could easily argue in favour of not changing its monetary stance at all, the strong cyclical upswing and bond scarcity seem to be the main driver for the ECB to finally announce first details of its tapering programme. Or, better describing the ECB’s hesitance and caution not to scare financial markets: the recalibration of its monetary stance.”

“Given official comments over the last weeks, there finally seems to be a consensus within the ECB to at least start tapering. No single voice has been opposing this idea. Where there still are diverging views, however, is on how to reduce its monthly QE purchases.”

“In our view, the ECB will first identify a targeted, final, size of the balance sheet before it derives paths towards this balance sheet target. Latest newswire reports suggest that the increase of the balance sheet could be between €200bn and €300bn. So, the big question is: how will the ECB spend it? In our view three potential scenarios for tapering: Fed-style tapering, the staircase option or lower for longer. (i) Fed-style, the gradual tapering option. This option would see a linear scaling back of the asset purchases. This could be either per month or per quarter, with the latter providing more flexibility. (ii) The staircase option. Here, the ECB could reduce its monthly QE purchases in January by some €20bn, keep the purchases unchanged until June and then reduce the monthly purchases yet again by another €20bn until September. (iii) Lower for longer. Here, the ECB could reduce its monthly purchases by more than markets currently expect to about €20bn or €25bn per month, while at the same time extending QE until the end of 2018.”

“Ideally, the ECB would like to announce tapering as noiseless as possible, limiting any upward movement of interest rates and the euro to a bare minimum. This is why we expect the ECB to announce a ‘lower for longer’ tapering, as in December 2016, reducing the monthly QE purchases to €25bn and extending them until the end of 2018. In addition, we expect Draghi to emphasise ‘sequencing’, ie, the fact that interest rates will remain low (far) beyond the end of QE. This should help to anchor interest rate expectations. Such a strategy would also help immunize the ECB’s monetary policy against further exchange rate fluctuations.”

“All in all, today’s ECB meeting should be a sea change. Not a rough one but a very mild and cautious one – the very slow beginning of the end. The ECB is still very much aware of any adverse effects from a premature tapering. Also, as strong as the Eurozone recovery currently looks, not only external risks but now again also risks from the inside (Catalonia, lack of further Eurozone reforms) could easily dent the recovery. Therefore, the ECB will do everything it can to convince everyone that its next steps are a very dovish tapering.”