The European Central Bank (ECB) is expected to increase its coronavirus asset purchase program at this week’s meeting, amid fears of inflation and the steepest economic downturn since World War II for euro zone.
In March, the ECB released the Pandemic Emergency Purchase Program (PEPP), which will see it buy 750 billion euros ($ 819 billion) in euro zone government bonds this year. Analysts now expect that number to increase.
“We see a 60% likelihood that the ECB will raise its asset purchase target by Thursday, perhaps by 500 billion euros,”; Florian Hense, from Berenberg Economics, wrote in an analyst note.
“The staff’s hopes for growth and inflation make it easy to justify such decisions.”
Staff projections for inflation and economic growth are likely to be downgraded this week, at least briefly – and perhaps moderately.
“ECB comments) Christine Lagarde suggests that the ECB adopt a baseline forecast for euro area growth somewhere between medium and severe situations – in other words, around -9% when 2020, 5% in 2021 and 3% in 2022, with headline inflation at 0.3%, 1.0%, 1.5%, respectively, “Frederik Ducrozet and Nadia Gharbi, from Photet Wealth Management, wrote in a note.
Lagarde has repeatedly emphasized that the central bank cannot be “the only game in town” and can accept the ambitious European Commission proposal for an EU recovery fund and the financial measures taken or discussed in the entire euro area.
But despite this fiscal response, the ECB is unlikely to remain inactive, as it faces the risk of low inflation leading to the collapse and destruction of the euro area.
“Concerns about the risk of deflation appear to be more prominent in the account of the April policy meeting,” Ken Wattret, chief economist of Europe at IHS Markit, wrote in a report. “It has been pointed out that since the onset of the coronavirus epidemic, the probability of inflation less than zero has increased significantly according to the probabilities indicated by the option, pointing to a significant risk of deflation.”
In addition to an increasing PEPP purchase volume, the ECB has other options. It may change the terms of the interest rate system to be more generous, and may initiate detailed communications regarding the revival policy attached to the PEPP program. On top of that, it could also mean expanding the asset pool to include credit below the investment grade, commonly referred to as the “junk” bond.
“Whatever the ECB is doing at its regular Council Management session on June 4 will count as a signal rather than a real economic stimulus,” Berenberg’s Hense added.
“Still, the signals count. Especially in times of increased uncertainty.”
Correction: A quote in this story has been updated to indicate that the ECB is expected to increase its stimulus by 500 billion euros.