ECB Seen With Only One Choice Tomorrow to Avoid Market Rout

(Bloomberg) -- European Central Bank policy makers face the peculiar situation this week of being widely expected to announce more monetary stimulus well before they run out of the ammunition still to hand.

The ECB has so far spent less than a third of the 750 billion-euro ($840 billion) pandemic emergency purchase program that it started in March. At the current pace, it could wait until its July or September meeting before judging whether the program is big enough to soak up the debt issued by governments to fight the recession.

Similarly, the market stress that pushed the ECB into action has faded, partly because of the central bank’s bond buying, and partly because the European Union has moved closer to a common fiscal response through a 750 billion-euro recovery fund. An Italian bond sale Wednesday attracted record demand.

Yet anything less than a widely anticipated increase to the bond program could trigger a market shock reminiscent of the one in March when President Christine Lagarde inadvertently suggested that she might not act to calm peripheral bond markets.

“No increase in the pandemic emergency purchase program is basically a big jerk for the periphery,” said Pooja Kumra, senior European rates strategist at Toronto-Dominion Bank.

An overwhelming majority in a Bloomberg survey conducted last week expect the Governing Council to top up the asset purchasing program by 500 billion euros.

The prospect that some central bankers might prefer to delay was raised in an article this week by newswire Market News International, which competes with Bloomberg News, saying “many members” of the Governing Council would oppose an increase.

Krishna Guha, head of central bank strategy at Evercore ISI, said the article, based on unidentified sources, was “disturbing” and couldn’t be dismissed because “it would not be the first time that the ECB and Europe in general has stolen defeat from the jaws of victory.”

Holger Schmieding, chief economist at Berenberg, reckons an increase in pandemic purchases will be announced but put only a 60% probability on that happening.

What Bloomberg’s Economists Say

“The European Central Bank seems almost certain to increase the size of its Pandemic Emergency Purchase Programme at the next meeting on June 4. The present pace of buying, government financing needs and brewing trouble in Italy suggest it needs to be increased to over 1 trillion euros.”

-David Powell. Read his ECB PREVIEW

The ECB itself has built expectations for action. Policy makers have repeatedly said they’re ready to boost the program if needed, Executive Board member Isabel Schnabel said the decision would be tied to the economic data, and Bank of France Governor Francois Villeroy de Galhau said “we will very probably need to go even further.”

The data suggest that while the worst may be over, the recovery will be painfully slow. A gauge of economic activity published Wednesday rose to the highest in three months for May, yet it merely showed the contraction slowing, not halting. Labor-market data showed that furlough programs are the main thing keeping the jobless rate from surging.

Lagarde has already said the euro-area recession this year will likely be somewhere between the central bank’s medium and worst-case scenarios, signaling a contraction of around 10%. That’ll be backed up by new projections in her press conference on Thursday.

Moreover, the EU’s recovery fund, heralded as an historic breakthrough, still has to be agreed by all 27 member states and could yet be watered down. Even when it does come into effect, the funds won’t start being issued until next year.

“It would be rather stupid of them when they have forecasts and see where the downside risks are to suddenly decide to delay,” said Marchel Alexandrovich, an economist at Jefferies. “That would really be an own-goal after spending so much time and money on trying to support the economy and markets.”

Policy makers will be reminded that Europe is far from being back to normal by the fact that the meeting, and Lagarde’s press conference, will be virtual. Countries are easing their lockdowns while keeping many restrictions in place and repeatedly warning of a resurgence in the coronavirus if people don’t heed them.

“There is obviously a case to be made for them to wait,” said Piet Christiansen, an economist at Danske Bank. “You could argue let’s wait to see how economies open up before we commit to more. But it’s no time for heroes and waiting this out -- there are major risks and I don’t think the ECB can actually afford to delay.”

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