ECB front runs deteriorating macro backdrop, launches TLTRO III

The European Central Bank has unexpectedly gone ahead and unveiled a new round of cheap loans for the bloc's lenders and pushed back its so-called 'forward guidance', taking the possibility of interest rate hikes in 2019 off the table.

In theory - literally - central banks should be wary of surprising markets, unless they enjoy high credibility.

Thus, making the most of his, ECB chief Mario Draghi on Thursday moved to get ahead of a deteriorating macro backdrop.

And judging at least by economists' initial reactions, it looks to have been needed; indeed, some analysts were questioning whether he should in fact have gone further still.

Still other observers expressed disappointment with what details of the new bank loans had been made available, including the higher cost of the same.

Kerim Derhalli, CEO and Founder of Invstr, told clients: "In the face of a seemingly protracted European slowdown, it’s encouraging to see the ECB stick to its guns and maintain tack on monetary policy.

"Bank lending under the negative rates has expanded, however all this good work could come undone should the current slowdown cause a drop in borrowing demand."

In a research note sent to clients immediately after the ECB's announcement, Andrew Kenningham at Capital Economics was more downbeat, saying: "We doubt, however, that the new measures will be enough to reverse the economic slowdown."

Linked to the above perhaps, and as several market watchers noted, European stockmarkets reacted poorly to the announcement, with shares of lenders pacing losses, although the latter could perhaps be explained by the flattening in the European government bond yield curve seen after the ECB's decision.

ECB POLICY DECISIONS

The Governing Council kept all its official interest rates, on its main refinancing operations, on the marginal lending facility and the deposit facility unchanged at 0.00%, 0.25% and -0.40%, respectively.

But unlike last month, short-term official interest rates were now expected to remain on hold "at least through the end of 2019" and not just through the end of the summer.

Rate-setters in Frankfurt also unveiled a third round of of so-called quarterly targeted longer-term refinancing operations which would run from September 2019 to March 2021, each with a maturity of two years.

And the ECB's lending operations were now set to continue as fixed-rate tenders with full allotment "for as long as necessary" at least through the reserve maintenance period beginning in March 2021.

THE RATIONALE

In his introductory statement, Draghi said the impact of a mix of factors from overseas, together with country and sector-specific ones, was turning out to be longer-lasting than had been expected, although it was expected to unwind.

Be that as it may, in their latest set of macroeconomic projections, which were published on Thursday, ECB staff cut their forecasts for euro are GDP growth in 2019 from 1.7% to 1.1%, although those for the following two years, at 1.6% and 1.5% were little changed overall.

And in any case, the rate of gains in CPI for 2021 was now pegged at 1.6%, down from the 1.8% previously anticipated and too far below the central bank's target for inflation close to but below 2.0%.

CPI was now seen rising by 1.1% in 2019, versus 1.7% before, and by 1.6% in 2020, against a previous forecast of 1.6%.

He also described recent readings on underlying inflation as "generally muted", although that was expected to reverse over the medium-term on the back of faster growth and rising wages.