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ECB preview: The system is liquid enough

Thu, Oct 8 2009, 10:59 GMT
by Frank Øland Hansen

Danske Bank A/S

• The ECB is expected to hold the refinancing rate unchanged at the Governing Council meeting this afternoon. Jean-Claude Trichet is also expected to reiterate that “current rates remain appropriate” and will not signal any rate hikes for the near future.
• The most interesting is likely to be that we could get insights into how the ECB interprets last week’s 12-month auction and we could get a few more hints about how long the ECB is willing to keep rates at record lows.
• Governing Council member Marko Kranjec has said that the demand “shows the system is liquid enough and that banks don’t need funds so much.” We believe that Trichet will give an assessment of the auction in line with this positive interpretation.

The system is liquid enough

The ECB is set to hold the refinancing rate unchanged at the Governing Council meeting this afternoon (as expected by all analysts in a Reuters’ poll). Trichet will also reiterate that “current rates remain appropriate” and will not signal any rate hikes for the near future. Nevertheless, it will be interesting to follow the press conference. We could get insights into how the ECB interprets last week’s 12-month auction and we could get a few more hints about how long the ECB is willing to keep rates at record lows.

Last month Trichet said that “the significant contraction in economic activity has come to an end and is now followed by a period of stabilisation and very gradual recovery”. We would like to hear him becoming more positive on the prospects for the next couple of quarters, but that might not happen yet despite several positive signs – not least from German orders. Trichet might reiterate that the road ahead will be bumpy – signalling that a couple of months of positive data would not enough for the ECB to become confident that the recovery is on track and roll back stimulus.

September inflation data were below expectations and both energy and food prices are showing softness. We believe Trichet is likely to say again that inflation in the medium term will be in positive territory, but subdued in the wake of sluggish demand.

At last week’s 12-month auction demand was just EUR75bn – lower than the average market expectation of EUR135bn and much lower than the EUR 442bn at the first tender in June. Governing Council member Marko Kranjec has said that the demand “shows the system is liquid enough and that banks don’t need funds so much.” We believe that Trichet will give an assessment of the auction in line with this positive interpretation.

Exit strategy

The tone of Trichet when speaking on exiting is still quite downbeat. Trichet said on October 1 that “From an ECB point of view, it is important to do what is necessary to exit as soon as possible.” “It is important in our view that it starts as soon as the recovery starts. It is something which is essential for the recovery itself... I would say, in our own view, at the latest in 2011.” Several ECB governing council members have recently stated that it is too soon to begin withdrawing stimulus measures now.

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Published on  Thu, Oct 8 2009, 11:02 GMT