ECB: Rates on Hold but Revises up Forecasts for Growth and Inflation


On Thursday 2nd of June 2016, the Governing council unsurprisingly left its key interest rates unchanged, saying it was willing to leave the rates “at present or lower levels for an extended period of time, and well past the horizon of our net asset purchases”. It is time now to observe the effects of the decisions made in March 2016.

EURUSD ECB reaction.
EURUSD ECB reaction. © forexop

The ECB revised up forecasts for growth and inflation – growth for 2016 was revised upwards to 1.6%.

What did the ECB decide on the 10th of March?

  • The rate on the main refinancing operations (MRO) has been decreased from 0.05% to 0%. This is the rate that a second tier bank has to pay to borrow money to the ECB. This rate is the price of the loan over one week.
  • The rate on the deposit facility has been pushed deeper into negative territory from -0.30% to -0.40%. This is the rate that banks must pay to keep overnight deposits with the ECB.
  • The interest rate on marginal lending facility has been decreased from 0.30% to 0.25%. This is the rate that banks in the Eurosystem must pay to use overnight credits outside the conventional refinancing operations.
  • The monthly asset purchases has been increased from 60 to 80 billion euros till March 2017.
  • They decided to include “investment-grade euro-denominated bonds issued by non-bank corporations established in the euro area in the list of assets that are eligible for regular purchases under a new corporate sector purchase programme”. This CSPP will start on the 8th of June 2016.
  • In June, September, December 2016 and March 2017, 4 longer-term refinancing operations will be launched (TLTRO II). This 1st Targeted for Longer-Term Refinancing Operations will start on the 22nd of June.

The ECB considers that these decisions will accelerate the return of inflation towards 2% and achieve the objective of price stability with better borrowing conditions by stimulating the supply of credit to help the momentum of economic recovery in the Eurozone.

ECB revises up forecasts

The ECB revised up forecasts for growth and inflation. The growth for 2016 was revised upwards to 1.6% (against 1.4% last time) while the figures for 2017 and 2018 remain largely unchanged at 1.7%. Regarding inflation, forecasts rose from 0.1% to 0.2% in 2016 and remain unchanged for 2017 (1.3%) and 2018 (1.6%).

Remember that the ECB’s primary objective is price stability, meaning to keep inflation “to levels below, but close to, 2%” over the medium term in order to support the general economic policies of the EU toward full employment and economic growth.

A negative deposit rate means that banks must pay for the ECB to retain excess cash.

With the rate on the main refinancing operations at 0%, commercial banks can now borrow from the ECB free of charge, which should lower the rates they charge on loans to their clients. Similarly, the banks’ client’s investments won’t earn anything, which should encourage consumption rather than savings.

Negative Deposit Rates

A negative deposit rate means that banks must pay for the ECB to retain excess cash. The objective of the ECB is to discourage banks depositing reserves in its vaults, while encouraging them to invest these funds in the form of credit to businesses and households in order to revive the economy.

Logically, the deposit facility rate (-0.40%) is always lower than the marginal lending facility rate (0.25%) since the ECB would automatically lose money every day otherwise. The refinancing rate (0%) is below the marginal lending facility rate, as a bank has to pay more to borrow outside the traditional weekly operations of the ECB.

Regarding the TLTRO II operations – these will allow banks to offer more attractive financing conditions in the long-term, to further ease credit conditions. Thus, these operations should strengthen the transmission of monetary policy to the real economy by encouraging banks to allow more loans. The interest rate applied to these operations will be set for each operation, with the main refinancing interest rate prevailing at the time the operation will be settled. The first operation will be launched on 22 June.

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