• The ECB cut the deposit rate by 10bp to -50bp, leaving the MRO and MLF unchanged, while also linking it to the inflation outlook.
  • The ECB restarted QE by EUR20bn/month with an open end, which was a strong commitment, but a very vocal call from Draghi indicated a need for fiscal policies to take the stage now.
  • Given the very clouded environment and need to gauge the market impact of the tiering system on money market rates, we do not expect the ECB to change policy rates in our horizon at the current juncture. However, if further monetary easing is needed, it would come via a rate cut and not further QE.
  • Short-end market reaction suffered markedly on a tiering system announcement, while the longer end of the yield curve is broadly unchanged on the day.

Open-ended QE but no full commitment

The long-awaited ECB meeting did not bring the full commitment from the ECB that the market was hoping for. Although policymakers surprised the market on the dovish side with the decision to complement a 10bp rate cut in the depo rate to -0.5% with an open-ended restart of the QE programme at a monthly pace of EUR20bn (starting in November), Draghi’s lack of clarity and commitment on questions about increases in the ISIN/issuer limits or the possibility of other non-standard monetary policy tools left some question marks about the commitment to do ‘whatever it takes’. After the press conference, some sources indicated German, Dutch, French, Austrian and Estonian opposition to restarting QE.

One note-worthy change in the ECB communication was a change in the rates forward guidance, which now only incorporates a state-based element to leave the ‘key ECB interest rates at present or lower levels until a robust convergence in the inflation outlook to a level sufficiently close to, but below, 2%’ is visible – also in terms of the underlying inflation dynamics. A particular sense of urgency to act came from the fact that inflation expectations have started to ‘re-anchor at levels around 1-1.5%’, which is not consistent with the ECB’s aim. In light of the increased prominence of the inflation commitment, we also took note of Draghi’s comment about a strategic review of the monetary framework, which will continue under the new ECB President Lagarde. It is difficult to say whether this review should be seen as dovish or hawkish by the market, but it will be very important to monitor going forward.

Furthermore, to complement the package, the ECB also introduced a tiered deposit rate system which at first glance seem to tighten the money market conditions. Euro area banks are now able to place six times its minimum reserve requirements, although the multiplier will be set without unduly influencing the money market, about which we will write later. The initial reaction led to a sharp repricing of the money market rates.

Lastly, as the economic outlook has become even more clouded since the June meeting (more below), the terms of the TLTROIII operations were made even more favourable and their maturity extended from two to three years.

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