What more could the ECB do? - Capital Economics
European Economics

What more could the ECB do?

European Economics Weekly
Written by Jack Allen-Reynolds

Even after yesterday’s loosening of monetary policy, the ECB is unlikely to hit its inflation target. The Bank is not yet out of ammunition, but we doubt that further easing would do much good.

ECB has more tools, but they’re blunt

The ECB’s new forecasts imply that it is not very confident about hitting its inflation target. Indeed, its new projections show headline and core inflation at just 1.5% in 2021, which President Draghi described as “well below” its inflation aim. And we think that the Bank’s growth and inflation forecasts are still too optimistic. (See here.) With that in mind, it’s worth looking at what more the Bank could do.

Perhaps the easiest move would be a further cut to the deposit rate. Mr Draghi’s comments at the press conference implied that the 10bp cut to -0.50% received more support on the Governing Council than the new asset purchases. The updated forward guidance leaves open the possibility of cuts. And the ECB could adjust its new tiered interest rate system to limit the impact of further cuts on banks’ profits.

What’s more, there is still scope for lower policy rates to feed through to lower interest rates faced by the private sector. While average interest rates on bank deposits are negative for non-financial firms in some countries (e.g. Germany and the Netherlands), they are still positive for households. And the interest rates on bank loans could decline further too. We have pencilled in another 10bp deposit rate cut for December this year, but that might now come later.

There is clearly a limit as to how much lower interest rates can go, though. So attention could turn to other tools, like asset purchases. And there is certainly scope for the Bank to do even more QE.

Mr Draghi claimed that the Council did not discuss its issuer limits this week because purchases can go on “for quite a long time” at €20bn per month. Our estimates suggest that the current 33% limit wouldn’t become a big problem until the end of 2021. (See Chart 1.) But the ECB would presumably want to increase its limits well before hitting them in any major economy. And if the economic outlook does not improve in line with the Bank’s expectations, policymakers may want to increase their monthly purchases. They could do that by raising the issuer limits or buying a higher share of corporate bonds.

Chart 1: Estimated Share of Eligible Public Sector Bond Market Owned by ECB (%)

Sources: Refinitiv, Capital Economics

However, while the ECB could expand its asset purchases further, it seems unlikely to do so for some time, not least because there were a number of Council members who opposed yesterday’s QE decision. And the new guidance suggests that if core inflation fails to rise, the Bank will continue buying €20bn per month, rather than increase its purchases.

We were one of the first forecasters to predict that the ECB would re-launch its asset purchases. (See here.) Now that it’s done so, we will review our forecasts in the coming weeks. But the big picture is that whatever the Bank does, it’s likely to be “pushing on a string”.

Ireland’s economy still growing strongly

Ireland’s national accounts data, while difficult to interpret due to statistical distortions, suggest that the economy is growing at a fairly strong pace. That’s consistent with the data on retail sales and VAT revenues. Admittedly, employment growth has slowed and consumer confidence has dropped sharply in recent months as Brexit risks have risen. But provided a no-deal exit is avoided, Ireland should remain a strong performer.

Week ahead

We expect data released next week to show that euro-zone consumer confidence fell in September.


Data Previews

Data Preview – Euro-zone Consumer Confidence (Sep.) Fri. 20th Sep.

Forecasts

Time (BST)

Previous

Median

Capital Economics

Consumer Confidence

15.00

-7.1

-7.0

-7.5

Consumer sentiment probably eased this month

The European Commission’s (EC’s) measure of euro-zone consumer confidence is likely to have fallen again this month, reversing its rise over 2019 so far.

After falling throughout 2018, the consumer confidence index rose somewhat over the first seven months of this year from -7.4 in January to -6.6 in July. But in August it fell back, to -7.1.

Euro-zone equity prices have risen so far this month and in the past this has often been a sign that consumer confidence will rise shortly afterwards. But timelier Ipsos Primary Consumer Sentiment Indices revealed that while sentiment improved in Germany and Spain, it deteriorated in France and Italy. On balance, we suspect that the EC consumer confidence index declined to -7.5 in August.

On past form, this would be consistent with annual household spending growth of about 1.5%. But the indicator has overstated spending growth since the middle of 2017, and we suspect it actually points to spending growth of closer to 1%. (See Chart 2.)

Chart 2 : EC Consumer Confidence & Cons. Spending

Sources: Refinitiv, Capital Economics


Economic Diary & Forecasts

Upcoming Events and Data Releases

Date

Country

Release/Indicator/Event

Time CEST

Time (BST)

Previous*

Median*

CE Forecasts*

Mon 16th

Ita

CPI (Aug, EU Harm., Fin.)

10.00

(09.00)

(+0.5%)p

(+0.5%)

(+0.5%)

 

EZ

ECB’s Philip Lane speaks in London

14.00

(13.00)

Tue 17th

Ger

ZEW Economic Sentiment (Sep)

11.00

(10.00)

-44.1

-37.8

Wed 18th

EZ

Construction Output (Jul)

11.00

(10.00)

0.0%(+1.0%)

 

EZ

CPI (Aug, Fin.)

11.00

(10.00)

+0.2%(+1.0%)p

+0.2%(+1.0%)

+0.2%(+1.0%)

 

EZ

Core CPI (Aug, Fin.)

11.00

(10.00)

(+0.9%)p

(+0.9%)

(+0.9%)

 

Ita

Trade Balance (Jul)

11.00

(10.00)

€5.4bn

Thu 19th

Swi

SNB Interest Rate Announcement

09.30

(08.30)

-0.75%

-0.75%

-0.75%

 

Nor

Norges Bank Interest Rate Announcement

10.00

(09.00)

+1.25%

+1.38%

+1.25%

Fri 20th

Ger

PPI (Aug)

08.00

(07.00)

+0.1%(+1.1%)

0.0%(+0.7%)

 

EZ

Consumer Confidence (Sep)

16.00

(15.00)

-7.1

-7.0

-7.5

Selected future data releases and events

Mon 23rd

EZ

Markit Composite PMI (Sep, Prov.)

10.00

(09.00)

47.0

 

EZ

Markit Manufacturing PMI (Sep, Prov.)

10.00

(09.00)

53.5

 

EZ

Markit Services PMI (Sep, Prov.)

10.00

(09.00)

51.9

Tue 24th

Ger

Ifo Survey (Sep)

10.00

(09.00)

94.3

Thu 26th

EZ

M3 Money Supply (Aug)

10.00

(09.00)

(+5.2%)

 

EZ

ECB Economic Bulletin

10.00

(09.00)

Fri 27th

Spa

Retail Sales (Aug)

09.00

(08.00)

(+3.2%)

 

EZ

EC Business & Consumer Survey

11.00

(10.00)

103.1

*m/m(y/y) unless otherwise stated. p=provisional.

Sources: Bloomberg, Capital Economics

Main Economic & Market Forecasts

%q/q(%y/y) unless stated

Latest

Q1 2019

Q2 2019

Q3 2019

2018

2019

2020

2021

GDP

+0.2(+1.1)

+0.4(+1.2)

+0.2(+1.1)

+0.2(+1.0)

+1.9

+1.0

+0.8

+1.0

Household Spending

+0.2(+1.2)

+0.4(+1.1)

+0.2(+1.2)

+0.3(+1.3)

+1.3

+1.5

+1.3

+1.2

HICP (%y/y)

+1.0 (Aug)

+1.4

+1.4

+1.0

+1.8

+1.3

+1.1

+1.2

Unemployment Rate (%)

7.5 (Jul)

7.8

7.6

7.4

8.2

7.5

7.3

7.0

Depo Rate, end period (%)

-0.50

-0.40

-0.40

-0.50

-0.40

-0.60

-0.60

-0.60

10 yr. Ger. Bond Yield, end period (%)

-0.50

-0.06

-0.32

-0.50

0.24

-0.50

-0.25

0.00

$/euro, end period

1.11

1.12

1.14

1.10

1.14

1.05

1.15

1.15

£/euro, end period

0.89

0.86

0.89

0.88

0.90

0.84

0.85

0.82

Sources: Bloomberg, Capital Economics


Jack Allen-Reynolds, Senior Europe Economist, +44 20 7808 4995, jack.allen-reynolds@capitaleconomics.com