La Française AM: Pre-ECB commentary

La Française AM: Pre-ECB commentary

ECB
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Provided by François Rimeu, Head of Multi Asset & Senior Strategist at La Française AM

What options does the ECB have left to stimulate recovery?

The ECB will hold its press conference on Thursday September 10th. Here is what we expect:

  • They will update their macro-economic projections. We do not expect material changes (ECB projections are already low), however we believe that they could lower both their GDP and Inflation forecasts, hence sending a dovish signal to the market.
  • The Euro has rallied significantly over the summer, which is boosting the case for more monetary stimulus (especially with very low inflation and core inflation). Even if we do not anticipate the announcement of such actions, Mrs. Lagarde will have to introduce potential actions before year-end. What are the ECB’s options?
    • Policy makers know that their “words” can have an effect on markets, so they may “talk” about the Euro in the context of monetary policy. Mentioning that the strength of the euro is an issue for the ECB, is an easy and cheap way to intervene. But if that does not work, it can put the ECB’s credibility at risk.
    • Asset purchases: They could increase the size of the current programs, merge them, increase the length…
    • The ECB could communicate that cutting the deposit rate is an option, perhaps coupled with new TLTRO (or better terms) in order to counterbalance the negative effects on banks.
    • The ECB could also announce a higher inflation target or flexibility regarding a potential inflation overshoot. However, to be efficient, the ECB has to be credible, which is not the case anymore on the inflation front.

The ECB is in a very difficult situation: very low core inflation, negative headline inflation, appreciating Euro…Historically speaking, these developments would have led to a very dovish and immediate response from the ECB. The issue here is that the ECB is almost out of options: they could cut the deposit rate, but what would be the impact of going from -0.5% to -0.6%? They can increase the size of the programs, and they will at some point, but again, the impacts on inflation and the Euro are not obvious. The ECB may be worried about the appreciation of the Euro and very low inflation, but that does not mean it can do much about it.