02 February 2010

EZA 931 Report: ECB Observer

EZA931/02Feb10: ECB 04 February Council Preview 'REFI' RATE SEEN HELD THROUGH MID-YEAR - AS MATURING EUR 442 bn LTRO POSES LIQUIDITY CHALLENGE - WITH 2 MODEST HIKES LIKELY BY END-2010

·       Limited set of new economic data since ECB's last meeting 2 1/2 weeks ago suggest that the recovery remained at best patchy towards the end of 2009.

 ·    'Headline' inflation rate 1.0%, up from 0.5% in November and 0.9% in December, while 'core' inflation remains stable at 1.0% and inflation expectations appear neutral.

·        Domestic cost pressures subside but higher commodity prices exacerbated by weaker euro.

·        Broad money growth again slightly negative and outstanding loans to non-bank corporations are cut back further but lending to households continues modest upturn.

·        EZA continues to expect ECB to keep rates on hold beyond mid-2010, while preparing to cushion potential EUR 442 bn liquidity squeeze on 1 July, when last June's 12-month 'refi' matures, and evaluating implications of its effect on market interest rates.

 

       The ECB is most unlikely to indicate any early tightening of its current policy stance, beyond the already announced gradual withdrawal of its enhanced credit support measures. EuroZone Advisors therefore still expects the ECB to keep its key interest rates at their current levels, with the main re-financing rate at 1%, beyond the middle of the year, when management of the potential liquidity squeeze resulting from the unwinding of last June's EUR 442 bn 12-month LTRO on 1 July will present the ECB with a very particular challenge, requiring special smoothing operations around that and subsequent important maturity dates. We believe that the Governing Council will want to monitor very closely how all this plays out in terms of money market interest rate responses before embarking on a very gradual return to a more neutral interest rate stance. This would seem to imply a rise in the main refinancing rate, in at most two steps this year (probably in September and December), of 25 or 50 bp each, depending on the perceived robustness of the economic recovery and relative threat of renewed inflationary pressures at that time

 

 

Please see the attached our regular analysis from John Arrowsmith as a pdf file to read onscreen or simply print and read at your convenience.

  

John Arrowsmith: ECB / Regulatory

Tel: +44 7720 59 1726

john.arrowsmith@eurozoneadvisors.com

Discussion Partners

 

John Arrowsmith: ECB / Regulatory

Tel: +44 7720 59 1726

john.arrowsmith@eurozoneadvisors.com

 

Dr Michael Clauss: Germany Politics / Economy / Equities Sectoral Analysis
Tel: +49 89 64254046

michael.clauss@eurozoneadvisors.com

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