MNI INTERVIEW: ECB Could End APP Reinvestments In Q3 - Kazaks

The European Central Bank could end all reinvestment of bonds bought under its Asset Purchase Programme in the third quarter of 2023, Central Bank of Latvia Governor Martins Kazaks told MNI.

With reinvestments already set to decline by EUR 15 billion per month from March 1 and the future pace of quantitative tightening up for review at the end of June, a full-stop is a “viable possibility,” Kazaks said in an interview, adding: “It is too early to say, but that is one possible option.”

Looking ahead, headline inflation may slide towards ECB’s target quite swiftly, but underlying inflation may turn out to be more persistent, he said. The 50bp rate hike to 3% the ECB has said it intends to make in March is an appropriate choice, Kazaks said, but more large hikes may be needed to bring inflation back to 2% durably. (See MNI WATCH: ECB Points To Another 50Bps Hike In March)

“We still need significant rate increases. We are approaching 3%. Hopefully in March we can say that we are entering restrictive territory, but it's not going to be sufficient. I do not see that after March there is a case for a pause. I think we need a consistent increase in the rates,” he said. “What is important is that there should be no doubt about our resolution to reach the aim of 2% in a timely manner, which, in my view, is much earlier than the December 2022 forecast of late 2025.”

PEAK RATE

Asked if rates could peak at 4% - around half a point above the level currently priced in by markets - Kazaks replied that is too early to say, but that the Governing Council will take rates “as high as necessary,” with the number of steps taken still to be determined.

Markets would also be mistaken to assume the ECB will start cutting rates soon after peak rate is reached, amid strong signals Europe’s economy is proving more resilient than previously feared.

“If we were sharply to cut back on the rates, that would only be consistent with a very negative macroeconomic scenario where inflation would come down very quickly, and we would need to support the economy. That kind of scenario for the economy is in my view currently not relevant,” he said.

Kazaks acknowledged that financial stability risks are likely to increase as rates rise quickly, and with policy lags meaning the full effects of previous decisions have yet not been fully felt. But, he added, “as to the risks of overshooting rates, I think we are still far from there. Currently, the only way for rates to go is up.”

EU fiscal policy and China’s post-Covid reopening are likely to remain sources of uncertainty for some time yet, Kazaks said, “so, let’s stick to our guns, stay the course.”

June’s macroeconomic projections - which are produced by national central banks - could be as significant a factor in determining the rate path as those published in March, which are produced by ECB staff, he said.

“In June we're going to have yet another forecast going into another meeting. Each meeting is important, I would not overestimate the importance of one specific meeting or one specific set of data.”