EMU: ECB Announcement

Thu Sep 03 06:45:00 CDT 2015

Consensus Actual Previous
Change 0bp 0bp 0bp
Level 0.05% 0.05% 0.05%

As expected, the ECB signalled no changes to key interest rates at today's policy announcement. Accordingly, the benchmark refi rate stays at 0.05 percent, above the minus 0.20 percent deposit rate and below the 0.25 percent marginal lending rate.

However, while there was a strong consensus in favour of stable interest rates, there was some uncertainty about what the central bank would do with the unconventional side of its monetary policy. In particular, slowing global growth, volatile stock markets, a still unconvincing domestic recovery and a renewed fall in Eurozone inflation expectations had at least raised the possibility of some additional boost to the current E60 billion/month QE programme.

In practice the central bank opted not increase its asset purchases but at his post-announcement press conference ECB Chief Draghi went out of his way to stress the flexibility of the existing programme in terms of size, composition and duration.

Moreover, increased downside risks to the economic outlook were highlighted and also reflected in the central bank's new economic forecasts. These revised down GDP growth projections from 1.5 percent to 1.4 percent this year, from 1.9 percent to 1.7 percent in 2016 and from 2.0 percent to 1.8 percent in 2017. At the same time, expected HICP inflation was nudged lower to just 0.1 percent from 0.3 percent this year and from 1.5 percent to 1.1 percent next year and from 1.8 percent to 1.7 percent in 2017. The bottom line is that the current policy stance is not expected to achieve the ECB's near-2 percent HICP target even over the medium-term.

Accordingly, speculation that a larger QE programme is simply waiting in the wings is unlikely to go away anytime soon. The ECB may not want to expand its asset purchases so far ahead of their tentatively planned completion in September 2016 but today's statement certainly lays down the verbal groundwork needed to do exactly that. Monetary policy will remain very accommodative over the foreseeable future and could well be eased still more in the interim.

The European Central Bank meets every six weeks to determine the appropriate stance of monetary policy.

The European Central Bank determines interest rate policy at their Governing Council meetings. The Council is composed of the six members of the Executive Council and 17 presidents of member central banks (Bank of France, Bundesbank, etc). The Governing Council meets now meets every six weeks. The European Central Bank has an established inflation ceiling of just less than 2 percent. The ECB's measure of inflation is the harmonized index of consumer prices (HICP). Each member of the Governing Council has one vote and decisions are reached by simple majority. In the event of a tie, the President has the casting vote. No minutes are released so how individual members voted is not known.

As in the United States, European market participants speculate about the possibility of an interest rate change at these meetings. If the outcome is different from expectations, the impact on European markets can be dramatic and far-reaching. The rate set by the ECB serves as a benchmark for all other interest rates in the Eurozone.

The level of interest rates affects the economy. Higher interest rates tend to slow economic activity; lower interest rates stimulate economic activity. Either way, interest rates influence the sales environment. In the consumer sector, few homes or cars will be purchased when interest rates rise. Furthermore, interest rate costs are a significant factor for many businesses, particularly for companies with high debt loads or who have to finance high inventory levels. This interest cost has a direct impact on corporate profits. The bottom line is that higher interest rates are bearish for the stock market, while lower interest rates are bullish.