President of the European Central Bank Christine Lagarde.
Handout | Getty Images News | Getty Images
LONDON – The European Central Bank has announced that it will “significantly” increase its bond purchases in the next quarter after borrowing costs in the region rose.
The ECB decided on Thursday to leave its Emergency Pandemic Purchase Program (PEPP) unchanged at a total of 1.85 trillion euros (2.21 trillion US dollars), which is expected to be in effect through March 2022.
However, the central bank’s bond purchases in the first quarter were lower than usual, and the Frankfurt-based institute expected to increase its purchases in the future.
“On the basis of a joint assessment of the financing conditions and the inflation outlook, the Governing Council expects the purchases under the PEPP to be made significantly faster in the next quarter than in the first few months of this year,” said an ECB statement.
Eurozone bond yields have risen since February after their counterparts in the US rose after President Joe Biden announced a massive stimulus package. It has led to fears that rising yields could hurt Europe’s economic recovery by increasing borrowing costs for countries already grappling with the coronavirus crisis.
The Governing Council will buy flexibly depending on market conditions.
Christine Lagarde
ECB President
However, the ECB’s statement on Thursday calmed markets and bond yields fell in the euro zone. The central bank’s commitment to buying more will support bond prices and, in turn, help keep borrowing costs lower. Bond yields move inversely with prices.
“The Governing Council will buy flexibly according to market conditions to avoid tightening funding conditions that is inconsistent with the downward impact of the pandemic on the forecast inflation path,” added the ECB in its statement.
Speaking to CNBC earlier this month, ECB member Jens Weidmann said changes to the central bank’s government bond purchase program could be made to calm bond markets.
However, this is a sensitive issue for the central bank, which does not go directly to bond yields as it is not part of their mandate. Such moves could spark criticism for protecting eurozone governments from market dynamics and create expectations that they could act whenever yields rise.
“We do not control interest rates,” said ECB President Christine Lagarde at a press conference on Thursday.
Overall, the risks associated with the medium-term growth prospects for the euro area have become more balanced.
Christine Lagarde
ECB President
The central bank also decided to leave interest rates unchanged.
Economic outlook
As early as December, the ECB forecast that gross domestic product (GDP) in the euro zone would rise by 3.9% this year and by 4.2% in 2022. According to its latest estimates on Thursday, the ECB has revised its GDP to 4% for 2021 and 4% to 4.1% for 2022.
“Looking ahead, the ongoing vaccination campaigns, along with the gradual easing of containment measures, apart from other adverse developments related to the pandemic, support expectations of a significant recovery in economic activity over the course of 2021,” Lagarde said.
However, she noted that the ongoing pandemic continues to pose a risk to the economy, adding that consumers remain cautious about the outlook.
“Overall, the risks associated with the euro area’s medium-term growth prospects have become more balanced,” Lagarde said, citing vaccination campaigns, fiscal stimulus and better prospects for global demand.
Some EU countries are still banned, others still have strict social restrictions in place. In addition, the introduction of Covid vaccines in the region has been slow. This could put further pressure on the eurozone economies and hamper their economic recovery.
The ECB has urged the various governments to step up their fiscal responses, arguing that the burden cannot rest on the shoulders of the central bank alone. The European Union agreed to an unprecedented fiscal stimulus last year, but these funds are not due to be disbursed until this summer.
On Thursday, Lagarde spoke about “the importance of (these funds) being up and running immediately”.
With regard to inflation, the ECB expects some volatility in the coming months.
“Based on current oil futures prices, headline inflation is likely to rise in the coming months. However, some volatility is expected over the course of the year, reflecting the changing dynamics of the factors currently driving inflation up. It These factors are expected to ease annual inflation rates early next year, “Lagarde said.
The ECB estimates an inflation rate of 1.5% in 2021 and 1.2% in 2022. The mandate of the ECB is to keep prices lower, but close to 2%, in the medium term.
Market reaction
Eurozone banks sold off on comments from the ECB. The sector fell more than 1% shortly after the central bank’s latest decision.
The cautious stance of the central bank could mean that lenders in the region will continue to struggle in the low interest rate environment.
