At the time of writing, the European Central Bank's (ECB) governing council is busy debating when to wind down its quantitative easing (QE) program, a key step toward policy normalization. With the Eurozone economy recovering and inflation quickening, the crisis-era asset purchase program, through which the ECB bought some EUR 2.5tn worth of bonds since March 2015, is no longer as necessary as it once was.
Regardless of whether this signal comes today or at its July meeting, we believe investors need not fear the ECB’s shift away from ultra-easy money:
- Since a QE-announcement has been highlighted well in advance (by ECB chief economist Peter Praet), we do not expect a gradual reduction of stimulus to provoke a 2013-style taper tantrum. In addition, the global economic backdrop remains positive, supported by strong economic and earnings growth.
- The Eurozone’s policy shift is simply from ultra-easy to easy. The phasing out of QE reflects structural improvements in the Eurozone economy rather than a pressing need for more restrictive policy.
- A weaker euro (EURUSD –1.5% YTD) and higher oil prices (Brent +14.8% YTD) have helped lift both inflation and import costs, clearing the path for the ECB. We expect both to reverse over the medium term, suggesting a more modest inflationary path ahead. And while the recent soft patch in Eurozone economic growth (which slowed to 0.4% q/q in the first three months of the year) likely reflects exceptional factors, we think the ECB will be looking for more sustained Eurozone growth before raising rates.
Actual tapering is likely to begin in 4Q18, followed by a first rate hike in mid-2019. Today’s meeting will be key for EURUSD, which we see climbing to 1.25 in six months. The end of corporate bond purchases, averaging EUR 5bn per month recently, would remove an important technical tailwind for European credit markets. The past decade of ultra-easy money may have started with an economic crisis, but it is unlikely to end with one, and we remain overweight global equities.
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