The Eurosystem started its QE on March 9 2015 (decision to purchase €60 bn of assets per month until Sept. 2016), decided on December 3 2015 to extend it until March 2017 and decided on March 10 2016 to increase monthly purchases from €60 bn to €80 bn from April 2016. For he time being, the Eurosystem has already purchased € 860 bn of assets under the expanded APP, including € 726 bn under the Public Sector Purchase Programme (PSPP), and still has to buy € 880 bn of assets until March 2017.
Key points for this month:
- The pace Eurosystem’s purchases accelerated strongly in April (considering the pace of weekly purchases).
- In April, the Bundesbank bought Bunds on clearly higher maturities than it used to do (9 years vs 7 years) years.
- In effective terms, the euro remained roughly stable after the March governing council but remains close to December 2014 levels.
- Core countries’ yields rose slightly in April. The Italian sovereign spread widened slightly.
- The inflation break-even rates rose slightly in Germany while the 5y5y swap inflation forward remained rather stable.
- Credit spreads stabilized after the sharp tightening of March.
- Eurozone Equity indices experienced slightly positive returns in April.
- Financial stress and market volatility continued to fall after their sharp rise of the beginning of the year.
- Slight acceleration of loans to households but still very low progression of loans to non-financial corporations. Interest rates on new loans to SMEs are stabilizing.
Five important dates to have in mind
- June 5, 2014: Mario Draghi announces the ECB wants to expand its balance sheet to the 2012 level. Negative deposit rates and the launch of a TLTRO programme are also announced.
- January 22, 2015: the ECB decides to launch an expanded asset purchase program (sovereign QE).
- March 9, 2015: the expanded APP turns effective. The ECB starts buying sovereign bonds.
- December 3, 2015: the ECB announces that the QE is extended until March 2017 and that the PSPP is extended to local and regional governments’ debt securities. Maturing assets held by the Eurosystem will be reinvested “as long as necessary”. The deposit rate is cut to -0.30%.
- March 10, 2016: the ECB increase the monthly purchases from €60 to 80 bn. The expanded APP is extended to corporate bonds issued by investment grade non-financial corporations (CSPP). The deposit rate is cut to -0.40%
Implementation seems like a simple matter, at least in principle. The ECB will nonetheless be faced with the challenge of purchasing €60 bn in securities each month in illiquid markets that are short of willing sellers. QE encourages market players to buy or hold on to assets rather than selling them. Meanwhile, the banks, which are major holders of government debt, retain these assets in portfolios for regulatory purposes or simply out of liquidity considerations, as the securities can be used as collateral. Given this backdrop, unless there is an explosion in issuance by governments, a rapid change in regulators’ policy or “forced” sales by public funds (is this not what Japan demanded of public pension funds?), the ECB’s drive to establish this program will inevitably run into the realities of the market, which will undoubtedly push down short and long-term interest rates even further.
We have already alluded to the importance of transmitting QE to the real economy. Several transmission channels will have to be activated in order for growth to be revived:
- An “exchange rate effect”: any currency depreciation would contribute to competitiveness and/or help restore business margins and/or lead to natural profit growth;
- An “interest rate effect”: any additional drop in interest rates would improve the creditworthiness of indebted entities and offer (potential) support to bank lending;
- A “banking credit effect”;
- A “spread effect”: the same impact as lower interest rates;
- A “wealth effect”: growth in the equity and real estate markets would elevate the wealth of market players, both consumers and investors;
- An “inflation anticipation effect”: the ECB’s intention is to stop the deflationary spiral, as lower prices mean lower consumption;
- A “confidence effect”: without confidence, it will be difficult for growth to take off.