(Bloomberg) — European Central Bank President Christine Lagarde said policy makers will focus on emergency bond purchases and long-term loans for their next wave of stimulus, effectively ruling out interest-rate cuts as a way to aid the economy.

“While all options are on the table, the pandemic emergency purchase program and targeted longer-term refinancing operations have proven their effectiveness,” she said. “They are therefore likely to remain the main tools for adjusting our monetary policy.”



chart, histogram: ECB has relied on emergency bond purchases and long-term loans


© Bloomberg
ECB has relied on emergency bond purchases and long-term loans

The Stoxx Europe 600 extended gains after Lagarde’s comments, and Italian 10-year bond yields extended their decline, signaling optimism that the ECB would increase asset purchases.

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The euro area’s economic outlook has darkened considerably in recent weeks as record-breaking coronavirus cases across the region have forced governments to reintroduce restrictions on activity. A stronger-than-expected rebound over the summer months has given way to a possible double-dip recession, and Lagarde warned that any future recovery is likely to be unsteady.

What Bloomberg Economics Says…

“Ahead of widespread distribution of a vaccine we anticipate activity will continue to bump along some way below pre-Covid levels. The experience of multiple countries over the last few months has shown economic activity and virus cases trapped in a rinse-repeat cycle.”

— Bjorn van Roye and Tom Orlik

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The ECB is widely predicted to increase and extend its 1.35 trillion-euro ($1.6 trillion) pandemic bond-buying program at its meeting in December, and many economists also expect it to make changes to its ultra-cheap credit for banks. Lagarde stressed that the duration of policy support matters as well as the level of financing conditions.

That backs the view of economists that the central bank is likely to stretch emergency purchases by at least six months to the end of 2021, and implement more of its targeted long-term bank loans or lengthen their duration.

The ECB hasn’t lowered its deposit rate, currently at -0.5%, at all during this crisis. Officials are concerned about the adverse consequences of doing so, which would squeeze bank profitability and could eventually deter lending.

Still, cuts aren’t completely off the table. ECB research published this week showed that the deposit rate could fall as low as -1% before it becomes more harmful than beneficial.

Stop-Start

“While the latest news on a vaccine looks encouraging, we could still face recurring cycles of accelerating viral spread and tightening restrictions until widespread immunity is achieved,” she said. “The recovery may not be linear, but rather unsteady, stop-start and contingent on the pace of vaccine roll-out.”

Lagarde’s remarks formed part of the ECB’s annual forum, normally held in the Portuguese resort of Sintra and traditionally a venue for strong policy messages from her predecessor Mario Draghi.

“The second wave of Covid-19 presents new challenges and risks, but the blueprint for managing it is the same,” Lagarde added. “The ECB was there for the first wave and we will be there for the second wave.”

(Adds economist quote after fourth paragraph)

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