ECB May Opt for More of Same as ABS Plan Takes Time, Pimco Says

The European Central Bank may resort to providing more liquidity to the region’s banks while it discusses more controversial measures that’ll take time to develop and implement, Pacific Investment Management Co. said.

Given the technical difficulties of purchasing asset-backed securities and the uncertain consequences of taking the deposit rate negative, “the ECB may opt for doing more of the same,” Myles Bradshaw, a fund manager at Pimco in London, said in a research note. A “super-long” refinancing operation with a five-year maturity or more three-year loans “would be technically much easier to implement than asset purchases,” he said.

The ECB is exploring options to boost lending to companies after officials reduced the benchmark interest rate to a record low of 0.5 percent this month. President Mario Draghi opened the door to further rate cuts, a negative deposit rate and a program to rekindle the ABS market in the region.

“Developing the ABS market will likely take some time,” Bradshaw said. “We should not expect rapid progress and should not be surprised if the ECB changes tack and buys other private assets, such as banks’ loans, or allows national central banks to create national schemes.”

Collateral Rules

Even accepting a broader range of ABS as collateral with lower haircuts “should help by reducing peripheral banks’ dependence on more expensive senior unsecured bond market funding,” he said, adding that gross public ABS issuance in the region is running at 20 billion euros ($26 billion) this year, down from 325 billion euros in 2007.

A “well-designed asset-purchase program” involving “some form of risk transfer” to allow banks to reduce their risk-weighted assets and raise capital ratios “could be the most powerful way to increase banks’ willingness and ability to lend,” Bradshaw said.

A further interest-rate cut seems likely, even though it won’t provide “incremental monetary stimulus,” he said. While a negative deposit rate could “at the margin make peripheral assets relatively more attractive to investors,” it wouldn’t repair the transmission channel of monetary policy, he said.

“A broken transmission mechanism implies that investors have become unresponsive to small changes in relative prices,” he said. “This suggests policy makers need to do more than simply tweak relative prices further.”

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