MNI POLICY: Key Rates Could Be Cut Further - ECB's Philip Lane

By Luke Heighton

     FRANKFURT (MNI) - Key interest rates could be cut further, the European

Central Bank's chief economist said Monday, as he outlined the reasoning behind

last week's package of monetary policy measures aimed at boosting growth and

inflation.

     However, "the more fiscal policy contributes to boosting long-term growth

potential and providing cyclical stabilisation," Philip Lane warned, "the

quicker will be the effects of monetary policy interventions on inflation and

the economy."

     Here are key points from the speech in Frankfurt:

     -- "If needed," Lane said, "we can further lower the deposit facility rate

and, with it, the overnight money market rate. As a result, there is no reason

for the distribution of future short-term rate expectations to be skewed

upwards."

     --The package adopted "also reflects our commitment to symmetry in the

inflation aim," Lane said. "The downward revisions to the projected inflation

path warranted a vigorous policy response. Our measures will lock in financial

conditions across various segments of the market."

     --The euro zone is experiencing a more extended economic slowdown than

previously anticipated, Lane said, with persistent downside risks to the growth

outlook, and a further delay in the convergence of inflation towards the ECB's

target. "The case for a monetary policy response was clear," he added, "and a

comprehensive package of measures was judged to be the most effective way to

support the convergence of inflation to our aim."

     --The state-contingent enhancements made to forward the ECB's forward

guidance now give a "clearer indication of what we want to see before policy

interest rates start to normalise," Lane explained. "We have added two

safeguards to anchor the notion of sustainability, which has always been part of

our guidance but is now more clearly stated. The phrase "robustly converge"

means that the Governing Council wants to be sure that the process of

convergence is sufficiently mature and realistic before starting to lift policy

rates. The qualification that convergence needs to be "consistently reflected in

underlying inflation dynamics" means that the trajectory of realised inflation

should underpin our inflation outlook."

     --"The asset purchase programme is an important complement to our interest

rate policy and will dynamically adjust in line with our policy rate forward

guidance," Lane said. "Based on our projections on the size and evolution of the

purchasable universe, we are confident that the envisaged purchase volumes will

be consistent with the current parameters of the APP for an extended period of

time," he added.

     --Extending the maturity of TLTRO III from two to three years "will better

align the operations with the typical maturity of bank-based financing of

investment projects, thereby enhancing the support that TLTRO III provides to

the financing of the real economy," Lane said, while signaling that the

Governing Council "can act in an agile manner and fine tune its monetary policy

instruments as needed."

     --The two-tier system for reserve remuneration due to take effect on Oct.

30 2019 "has been calibrated to strike a balance between, on the one hand,

offsetting the direct cost of negative interest rates on bank profitability,

thereby helping to sustain the pass-through of low policy rates to bank lending

rates, and on the other, preserving the positive contribution of negative rates

to the accommodative stance of monetary policy," Lane said.

     --"Reconciling these two goals is possible," Lane continued, "since the

value of funds in the money market is determined by their cost at the margin.

That marginal cost will continue to be set by the rate on our deposit facility,

and it will not be influenced by the higher remuneration that banks will receive

on the portion of their reserves that will be exempt under the new scheme. The

excess liquidity that will be created in exchange for the additional bond

purchases that start in November will also further increase the non-exempt

amount, which has already been calibrated in such a way as to preserve a high

level of trading activity in the money market. In any case, we will actively

monitor conditions in the money market and adjust parameters as necessary to

maintain an active trading environment and to ensure that the easing effects of

a reduction in the overnight interest rate are transmitted effectively through

the entire yield curve."

     --In conclusion, Lane said: "Both the net asset purchase horizon and the

reinvestment horizon are linked to our interest rates. They will therefore

adjust dynamically to changes in the inflation outlook and work in the

background to keep a lid on medium to long-term interest rates. Meanwhile, the

changes in the TLTRO III parameters and the two-tier system for reserve

remuneration will ensure that lower market interest rates are effectively passed

through to the interest rates banks charge their customers."

--MNI Frankfurt Bureau; +49-69-720-146; email: luke.heighton@marketnews.com

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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