Draghi Dials Down ECB Stimulus as QE's Distant Fate Debated

  • ECB to reduce QE purchase volume by EU20b starting April
  • Move may mark a shift amid years of ultra-loose policy

Mario Draghi’s flagship quantitative-easing program is slowing down with age.

After this week, the European Central Bank will reduce monthly purchases of public and private debt to 60 billion euros ($64 billion) a month. While the president has promised this will continue until at least the end of the year, the pace will be cut from the current 80 billion euros.

The ECB insists that this isn’t tapering -- the scheduled winding down of QE -- but it may turn out to be the beginning of the end as the euro-area recovery solidifies and markets focus on the next step. In the meantime, the Frankfurt-based institution’s chief task is to guide the region through a period of political uncertainty and assure investors that if it needs to do more, it can.

“This is the first small step towards the exit, but the exit will not be rushed,” said Marco Valli, chief economist at UniCredit SpA in Milan. “All seems to suggest that by the end of next year, QE should be over.”

If economists are correct, April might become an inflection point in the ECB’s almost uninterrupted nine-year run of ultra-expansionary monetary policy, which has seen it cross both practical and political boundaries in the name of saving the euro-area economy. From becoming the first major central bank to charge banks for deposits, to pressing ahead with quantitative easing, the measures -- though frequently criticized -- helped return the region to growth after facing several tests that threatened its collapse.

When the ECB finally began buying government bonds in March 2015 -- six years after the U.S. had done the same -- it tested the ideas enshrined in the core of the EU’s founding treaties that prohibit it from financing governments. Germany’s Bundesbank has been particularly outspoken against the measure, arguing that it reduces incentives for governments make their economies more competitive.

For a Quicktake explainer on the history of the ECB’s QE program, click here.

The QE program has been expanded several times and includes corporate debt as well as other assets. By the time it reaches its current deadline, 2.28 trillion euros will have been spent. The total may rise further if the ECB decides to extend it into 2018.

The exact exit path has not been decided yet, and the ECB has left the option open of increasing the purchase amount again if needed. Facing a host of uncertainties from elections in France to the U.K.’s divorce from the European Union, Draghi is trying to strike the balance between acknowledging progress and making sure the economic situation continues to improve. That’s already proving difficult as divisions among policy makers spill into the open.

Since the March meeting, some central-bank governors have floated the possibility of increasing the deposit rate before bond-buying is complete, contrary to the ECB’s current guidance, which says rates will stay low until well past the program is wound down. As a result, markets began pricing in a higher probability of increases in the deposit rate, with investors seeing about a 50 percent chance of a hike by April 2018.

Governing Council member Ewald Nowotny said on Thursday that the institution wouldn’t make the mistake of raising rates prematurely and that he sees no reason to deviate from its strategy this year.

His colleague Klaas Knot said the same day that the market’s expectation of a rate hike in early 2018 is “closer” to his own expectations. Knot also told Dutch newspaper Het Financieele Dagblad that it’s time for market discipline to return to the euro zone and he favors scaling back QE over a five-month period.

While the euro-area economy may be gaining momentum, the jury is still out whether it’s going to stay that way. Data on Friday showed inflation cooled to 1.5 percent in March, down from 2 percent, and core price growth of 0.7 percent was the weakest in almost a year. That’s why Draghi may want to keep stimulus in place as long as possible even if the monthly volume declines.

For Nick Kounis, an economist at ABN Amro in Amsterdam, that strengthens the case to stay on the pre-set course.

“QE is a comfort blanket,” Kounis said. “Do you want to be on the verge of hiking rates in this scenario? You would prefer to see if this goes smoothly, let the dust settle and then think about the next step.”

— With assistance by Martijn Van Der Starre

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