ECB Preview (June): Paving the way for a September QE extension – HSBC

Research Team at HSBC, notes that since the ECB released its comprehensive package of stimulus measures in March, the economic news flow has generally been positive.

Key Quotes

“GDP in Q1 grew by a solid 0.5% q-o-q. Moreover, oil prices in EUR terms are up by 16% since ECB staff made their last predictions in March. Coupled with the impact of the stimulus announced in March, we think that at the next ECB meeting on 2 June the ECB’s inflation forecast will be revised up throughout the horizon, and from 1.6% to 1.8% for 2018.

…but Mr Draghi will emphasise the ECB's willingness and ability to do more…

The ECB's head Mario Draghi has emphasised the need for patience with inflation but the Council will likely be irked by the level of disbelief implied by market measures of medium-term inflation expectations. For that reason we think the ECB will want to reinforce its commitment to do "whatever it takes" and remain on the front foot. At the same time, it doesn’t want to end up with the market expecting a large package of new measures at every meeting. As we have seen, particularly at last December's meeting, Mr Draghi treads a fine line between showing his commitment to do "whatever it takes", and the market getting carried away.

… paving the way for an extension of QE in September

Simply emphasising willingness and ability to do more may not be enough. If the ECB wants to demonstrated this more concretely, it could expand the issuance limit for non-CAC bonds to 50% from 33% and remove the yield floor (currently set at the deposit rate, which is -0.4%), which would potentially free up EUR300bn of German assets for the ECB to buy. this would then allow the ECB to at least expand the horizon of the QE programme by a further six months, which we now think will be announced in September.

Negative rates to remain on the table, but not used just yet

Mr Draghi was keen to emphasise in the April meeting that ALL tools remain available. In our view, the apparent U-turn on the signal sent in March reflects the appreciation of the EUR exchange rate that took place following the March meeting. Mr Draghi will continue to float the option of deeper negative rates, but due to the inherent side effects on bank profitability, may only use it if absolutely necessary.”