Mario Draghi kept all options open at yesterday’s meeting of the European Central Bank (ECB). The central bank raised the European Union’s growth projection from 1.1 to 1.2% for 2019 and their long-term growth outlook did not substantially worsen. As a result, the ECB was less dovish than expected.
However, Mario Draghi also indicated that a normalization of the ECB’s policy is still some way off. We are now operating in a world that is no longer normal, and this warrants a continuation of the low-interest-rate policy, which means keeping rates at present levels until mid-2020. After the first rate hike, reinvestments of maturing bonds will continue for an extended period. This timeframe is usually one year. Thus, reinvestments of about 200 billion euros a year will last at least until mid-2021, which is positive.
Mario Draghi additionally said several times that rate cuts and renewed asset purchases remain viable options - especially if the U.S. Federal Reserve (Fed) were to cut rates again as a response to the ongoing US-China trade tensions. Rate decreases are the Fed’s insurance policy and an instrument to keep the global economy on a sustainable growth path. After all, there are many trade uncertainties now that warrant pre-cautionary rate cuts, although the consumer on both sides of the Atlantic remains in good shape and resilient.
TLTRO pricing is based on the main refinancing operations rate (MRO rate) minus 10 basis points. The current level is still advantageous for banks. Banks that exceed their lending targets would be able to obtain funds even cheaper (at the moment, such cost of funds could vary from -0.3% to +0.1%). This is positive for banks and is designed to sustain consumer spending the European Area (EA), a strong pillar of the European economy.
Overall, we think this is still quite positive for the European government bond and credit markets, as the new TLTRO will in the end create excess liquidity and ensure that banks can refinance cheaply. One of the consequences of this is that there will be less issuance of bank bonds. Mario Draghi also left the possibility for the discussion on future rate cuts or additional quantitative easing to intensify quickly, as a matter of precaution, and not because the European economy is weakening.