MNI SOURCES: ECB Bracing For September Debate On PEPP Future

The European Central Bank is likely to start considering at next month's Governing Council meeting an extension to its Pandemic Emergency Purchase Programme (PEPP) beyond March as fears grow over the spread of the Covid delta variant - with early suggestions that a further EUR 500 billion may be appropriate - sources told MNI.

But decisions on any extension are not expected until later in the autumn or even into next year in a bid to narrow substantial differences among policymakers over PEPP's duration and scale. Political uncertainty, in particular the looming German federal election, is also cited as a key factor while the UK's July reopening 'experiment' is also being closely watched.

"There could well be a debate around the future of PEPP - both expanding the envelope by another EURO 500 billion and extending the horizon - in September," one official said. "They could make a decision in September, but they will almost certainly have to by December."

NOT OUT OF THE WOODS

"It's not clear that we will be out of the woods from an epidemiological perspective by the end of the year, or even by March," the official continued. "Other variants could still emerge. But that is not the same thing as saying it is still an emergency, or that we require an emergency purchase programme."

"I'm pretty confident there'll be a discussion about it," agreed a second official, who pointed out that a decision could be taken later than December. A March 2022 end to PEPP is still the expected scenario, he said, but there is now reason to think that may change.

"Back in June, I would have said we'll probably end at the end of March," the official explained. "The path to exit will start to become clearer and clearer. As we stand today, with delta, that's less certain."

Boosting PEPP is not yet being discussed at Governing Council level, said a third official, with the recovery expected to continue as the second half of the year progresses. However, the possibility that Europe's return to a pre-pandemic growth trajectory could be delayed by new variants of the Covid virus is in the back of many Governing Council members' minds, he added.

A sixth-month extension of PEPP with a EUR 500 billion expansion of the envelope would be both the logical starting point and preferable to both a rejigged Asset Purchase Programme (APP) or a new tool, he said, after which a more permanent solution to the problem of uneven growth and low inflation would need to be found.

The possible addition of another EUR 500 billion coupled with a six-to-nine-months extension of the programme is plausible, a former senior Eurosystem official said, adding that a more ambitious increase of around EUR 650 billion to take the overall PEPP total to EUR 2.5 trillion would probably prove too politically sensitive. Any decision to increase the funds available would have to wait until after the German election takes place on September 26, this source said.

PEPP/APP NEXUS

With the future of Europe's pandemic-specific bond buying programme under the microscope, there is also speculation as to what will happen to the longer-run APP, as the ECB sets its sights on its new 'symmetrical' 2% inflation target.

"I would not be at all surprised to hear that Philip Lane and the doves would favour asset purchases at similar levels to today, post-PEPP," the first official opined.

Importing PEPP's flexibility into the more constrained APP might be desirable, but is impossible at present, the former senior Eurosystem official said. "Doves like (ECB Executive Board member Fabio) Panetta want to include that in the APP, and then the hawks say the pandemic has stopped so let's finish with the flexibilities," the source continued.

"So that's very contentious. If it's too controversial you have to push this discussion to December or October. There is another meeting in October, which is fine (as) it's after the German elections."

GUIDANCE WRANGLE

Discord is also brewing over forward guidance, according to several officials who spoke to MNI, with up to five Council members disagreeing with July's majority decision not to issue new forward guidance on QE as well as interest rates.

The position of those governors, such as National Bank of Belgium Governor Pierre Wunsch, who went on-the-record with the doubts over what some perceive to be a monetary policy of 'lower for longer', was "entirely reasonable," the second official cited above said.

"He felt it was too long a commitment to make. I have a slightly different view on what forward guidance is, which is perhaps slightly more realistic, which is that forward guidance signals a central bank's intentions as of today. What it isn't is a contractual promise that we're not going to do something for a very long time if the facts fundamentally change," this official explained.

Both the first two officials cited above were in favour of the ECB dropping its commitment to maintaining bond buying under APP - currently set at EUR 20 billion per month -until shortly before it starts raising the key ECB interest rates.

"Maybe the ECB should drop the 'shortly before' commitment," said the first official, "but it is probably too political to do so."

"I'm a great believer that central banks need to retain as much flexibility across the whole of their toolkit as they can," the second official said. "I think that that word, 'shortly', constrains us unnecessarily. I do believe that we're going to be stopping purchases before we raise rates, but 'shortly' gives the impression that it might be the week before."