ECB Will Exit Cautiously
December 4th, 2009
The European Central Bank is set to begin the delicate process of phasing out its financial crisis support on Thursday, backed by new staff forecasts which should show greater economic optimism.
With markets still some way from normality, all 80 economists in the latest Reuters poll expect interest rates to be kept at 1 percent.
Instead the focus will be on what ECB President Jean-Claude Trichet says about scaling back the emergency lending it has used to get the euro zone’s financial system through the credit crisis and limit the recession.
Trichet has dropped a number of hints since the last policy meeting that this month’s handout of one-year loans will be the last, while he and other policymakers have stressed the ECB’s support will not be needed to the same degree going forward.
“The ECB is set to confirm its decision to stop 12-month refinancing after December,” said Nomura economist Laurent Bilke. “Beyond that, we look for some limited restrictions to 6-month maturity operations, such as reducing their frequency.”
The expected moves would bring an end to more than a year of rapid policy easing by the ECB and herald a change of direction.
But policymakers will probably to want to avoid pushing a rapid exit plan at this stage with countries like Spain still in recession after their decade-long Spanish property boom, unemployment expected to rise further and an already-strong euro threatening to sap the fledgling recovery.
Some central banks such as Australia’s and Norway’s have already begun to raise rates. But the U.S. Federal Reserve has stuck to its commitment to ultra-low interest rates while taking some small steps to wind down its emergency support, while the Bank of Japan this week offered to pump more funds at banks to lower longer-term money market rates.
Bilke said markets are hoping to hear how long the ECB plans to keep uncapped lending in place, while the rate of interest it charges on the one-year funds will be seen as a key indication of its mood and future interest rates moves.
It has the option of either leaving the cost of borrowing at its main interest rate or charging banks a little bit more.
The latter would be taken by traders as a signal it intends to raise rates at some point next year, but another option that now appears under discussion would be to have the one-year rate track any future benchmark rate hikes.
A new set of ECB staff forecasts on the economy are also due. For the first time they will stretch as far as 2011.
Markets are expecting a hefty upgrade to 2010 growth given the euro zone’s emergence from recession in the third quarter. Inflation numbers should also be nudged up after a stronger than expected return to positive territory last month.
“They will upgrade staff forecasts but remain relatively cautious,” said HSBC economist Janet Henry, who expects 2010 growth at a mid point of 0.8 to 0.9 percent compared with the 0.2 percent seen in the ECB’s last forecasts.
She added 2011 numbers should show inflation — the ECB’s main focus — still well under its target of close to but just below 2 percent.
“Looking at futures prices there is a very, very modest rise in oil prices so I think the mid-point of their inflation projections will be well below 2 percent,” she said, noting that would keep down chances of a rate hike before September.
Trichet is again expected to try and push down the euro. He and other European officials failed last week to convince China to let its currency appreciate, but were he to sharpen his tone on the euro it could rattle the common currency.
Story from Reuters
