The European Central Bank (ECB) is signaling a cautious departure from the practice of massive bond purchases, which has been common since the outbreak of the corona pandemic. With a brightened inflation outlook, it will no longer be so important how high the volume of securities purchases will be or when the acquisition speed will be reduced, said the German ECB director Isabel Schnabel on Monday at an online event of the Latvian central bank. “It is the end date that signals that the conditions for an interest rate hike are getting closer,” added the German economist.
For the sequence and timing, a careful guideline is required when the time has come. In view of the economic recovery from the Corona crisis, the European Central Bank (ECB) had decided to moderate the pace of its large-scale emergency bond purchases. The purchases as part of the PEPP purchase program are to continue until at least the end of March 2022. What happens after that will likely be clarified at the December interest rate meeting.
The Latvian central bank chief Martins Kazaks emphasized that the ECB would proceed “very carefully” in shutting down crisis aid. Support will continue to be needed even after the end of the PEPP program. According to ECB chief economist Philip Lane, bond purchases should not be stopped abruptly even after PEPP is switched off. An “APP” bond purchase program, which is of a smaller size, is currently running parallel to the emergency program.
However, many observers expect its volume to be increased if PEPP expires. The older APP program has so far also been designed in such a way that it is to expire shortly before an interest rate hike. ECB Director Schnabel recently pointed out that before an interest rate hike, the central bank must first be convinced that inflation would approach the ECB’s two percent target in the medium term. The rate of inflation in the euro area jumped to 3.0 percent in August, the highest level in around ten years. In Germany it was even 3.9 percent, with economists pointing to special effects such as the VAT cut last year and the sharp rise in crude oil prices. The central bank left the key interest rate at a record low of 0.0 percent despite rising inflation. In their latest forecast, the ECB economists assume that the inflation rate in the euro zone will reach 2.2 percent this year. For 2022, however, they only expect an inflation rate of 1.7 percent and for 2023 of 1.5 percent, which would mean that the ECB would fall below the two percent mark again.