The ECB has introduced a set of new policies that emulate quantitative and qualitative easing. Key measures are targeted long-term repo operations, asset-backed securities purchases, and covered bond purchases. The total net balance sheet expansion is expected to be at least 8% of euro area GDP over two years. Additional asset purchase programmes for corporate and sovereign bonds are possible in order to secure sufficient accommodation and to respond to contingencies.
The below are excerpts from ECB statements and economists’ commentaries. Emphasis and cursive text have been added.
Sources are listed at the bottom of the post.
The three policies of quantitative and qualitative easing
“[Our policy easing] is a combination of three measures. The so-called TLTROs [Targeted Long-Term Repo Operations], the purchases of covered bonds, and the ABS [asset-backed securities] purchase programme. [The measures] are both credit-easing and they address fragmentation… because they improve funding conditions, and because there will be spill-overs to all other markets…and also because…we expect an expansion of the markets that are at the present time impaired, like the ABS market…We expect also an expansion of the covered bonds market.”
[Mario Draghi, Nov 6, 2014]
“[i] Programmes will last at least two years, [ii] [the programmes] will enhance transmission of monetary policy, support provision of credit to the euro area economy and, as a result, provide further monetary policy accommodation, [iii] [the] Eurosystem collateral framework is guiding principle for eligibility of assets for purchase, [iv] asset purchases…start in fourth quarter 2014, starting with covered bonds in second-half of October.”
[ECB, Oct 2, 2014]
“Together with the series of targeted longer-term refinancing operations to be conducted until June 2016, these asset purchases will have a sizeable impact on our balance sheet, which is expected to move towards the dimensions it had at the beginning [March] of 2012 [implying an expansion by EUR1 trn to EUR3 trn, or close to 8% of euro area GDP].
Our measures will enhance the functioning of the monetary policy transmission mechanism, support financing conditions in the euro area, facilitate credit provision to the real economy and generate positive spillovers to other markets. They will thereby further ease the monetary policy stance more broadly, support our forward guidance on the key ECB interest rates and reinforce the fact that there are significant and increasing differences in the monetary policy cycle between major advanced economies.
Should it become necessary to further address risks of too prolonged a period of low inflation, the Governing Council is unanimous in its commitment to using additional unconventional instruments within its mandate. The Governing Council has tasked ECB staff and the relevant Eurosystem committees with ensuring the timely preparation of further measures to be implemented, if needed…
I would like to stress here the main message is that our balance sheet will keep expanding in the coming months and will continue expanding while the balance sheets of other central banks are bound to contract because of the different policy and economic cycles. That is the most important message that I can give as far as the future outlook is concerned.”
[Mario Draghi, Nov 6, 2014]
On the TLTROs
On the details of Targeted Long-Term Repo Operations and comments view post here.
“By our estimates, the TLTROs could add about EUR400bn to the ECB’s balance sheet over the next two years…While the peripheral banks are likely to take almost the entire amount of their allowance, core banks are likely to be more hesitant as they have lots of liquidity and access to medium/long-term funding at very cheap conditions. Therefore, the success of the TLTROs in terms of total borrowing will crucially depend on their participation… Even if the take at the first two 3-year LTROs is unlikely to be impressive, it should be enough to push the liquidity surplus into the “comfort zone” of EUR250-300bn, with a significant increase in the average maturity of the ECB liquidity.”
[Barclays Economic Research, Sep 4, 2014]
On the ABS purchase program
“The purchase of ABS will involve both newly created and existing ABS and would also include…real estate ABS. It would also include a fairly wide range of ABS containing loans to the real economy…
We certainly don’t want to set a calendar for regulators that are independent…Some regulation has changed, by the way, already, for the better, in the sense of treating ABS of a certain type better and in a less discriminatory way if compared with similar instruments like covered bonds, but these changes are not enough. And so we decided to go ahead, but certainly, some of these changes will be needed to rebuild a market which could be, especially in Europe, an important channel of credit intermediation.”
[Mario Draghi, Sep 4, 2014]
“The timing of [the ABS purchase programme]…was also a bit of a surprise, as the main regulatory changes to ease capital charges for banks and insurances on ABS, while at an advanced stage, are still under discussion….The ECB will purchase ABSs on non-financial private sector loans… Future regulatory changes on ABS can make an important difference on the amount of new ABS issuance in the coming months and years and, consequently, on the amount the ECB could purchase. Also, private-sector lending for the euro area banking system over the next couple of years will determine the underlying securitisation pool.”
[Barclays Economic Research, Sep 4, 2014]
“The purchase of both types of assets – ABSs and covered bonds – will be subject to rigorous conditions and the appropriate risk management measures to protect our own balance sheet. Securities to be purchased will have to comply with the same conditions as those in use for acceptance as collateral in our monetary operations. This allows the Eurosystem to perform its own due diligence when assessing the credit risk of ABSs. These conditions imply, for instance, that only ABSs that have simple structures and real and transparent underlying assets can be purchased, and that more complex ABS are excluded. Minimum ratings are necessary in both cases. Besides, there are limits as regards the amount of each issue that can be bought or the amount per issuer…
The total existing stock of ABS corresponds to EUR690 billion of which around EUR400 billion qualify as purchasable assets. We will buy only senior ABS tranches and will consider buying mezzanine tranches only if they benefit from an appropriate government guarantee. Such guarantees would greatly enhance the impact of the ECB purchase programme.”
[Vítor Constâncio, Oct 6, 2014]
“Mr. Draghi has said that the ECB will limit its purchases of ABS to high quality securities (the so-called senior tranche). It would only purchase less high quality (so-called mezzanine) tranches if they have a government guarantee. The credit rating of ABS therefore matters. These vary significantly, both across countries and across different categories of underlying collateral. A little less than 80% of outstanding ABS has an investment-grade rating and are thus potentially eligible for purchase by the ECB. In Belgium, France, Germany and the Netherlands, the vast majority of outstanding ABS are AAA-rated, while ‘single A-’ and ‘triple B’-rated securities dominate the ABS market in Ireland, Italy and Spain, in line with the sovereign rating of those countries…
Of the total EUR1.4trn of ABS outstanding, only half has been placed and traded in the market. The other half has been retained on banks’ balance sheets (so-called retained securitisation) for use as collateral at ECB operations…While the immediate success of Draghi’s plan depends on the stocks of available securities, future developments of securitisation will depend on the flows of new loans originated by credit institutions and their willingness to package them in a financial instrument.
[Goldman Sachs European Economic Research, Oct 1, 2014]
“As regards purchasing guaranteed mezzanine tranches of ABS, the ECB will communicate at a later date the eligibility criteria, probably once it is clearer if and who the guarantors could be, if any (Germany, Holland and France have already declined)…A key constraint to higher volumes remains weak demand and the risks of crowding out private investors. The ECB is likely to make continuous assessments and adapt its purchases accordingly.”
[Societe General Economics, Oct 2, 2014]
On the covered bond purchase program
“Covered bank bonds are debt securities whose cash flows are linked to a group of assets, usually loans. By contrast with ABS, the assets that back the security remain on the balance sheet of the financial institution that originated it. The portfolio of loans creates, thus, a ‘cover’ for the investor that purchased the bond in the event that the issuer defaults…In June, the outstanding amount of covered bank bonds that are eligible collateral was EUR1.5trn, slightly more than a fifth of which banks have already pledged as collateral.
The ECB has already conducted two covered bank bonds purchase programmes, one launched in May 2009 and the other in November 2011. Interventions were limited to investment-grade securities and capped at EUR60bn and EUR40bn, respectively.”
[Goldman Sachs European Economic Research, Oct 1, 2014]
“Restrictions reduce the amount of both assets that can potentially be bought. In the case of covered bonds, only half of them are eligible: from a total of EUR1.2 trillion, the stock of covered bonds that comply with all our requirements is reduced to about EUR600 billion.”
[Vítor Constâncio, Oct 6, 2014]
On the balance sheet expansion
“There remain a number of ambiguities around the actual size of balance sheet being targeted. The lack of clarity on a physical target is primarily a reflection of not knowing how much can be bought given the unprecedented nature of the ABSPP. However, it likely also indicates a lack of unanimity (still) on what is the appropriate balance sheet size. This weakens the automaticity between a slow pace of purchases and the immediate response of calling for additional measures to compensate.”
[Nomura Global Markets Research, Nov 6, 2014]
“With a longer time horizon and greater freedom on the issue share limits (70%), while also retained ABS and covered bond purchases are possible (“subject to some participation by other market investors”), we see a potential for ABS and covered bond purchases of around EUR200bn over the coming two years. While non-investment grade assets are included (for inclusion purposes and geographical coverage), there are several restrictions, which suggests that the ECB broadly is sticking to its collateral rules as regards risk-taking. This should to some extent moderate the criticisms of taking on too much risk. “
[Societe Generale Economics, Oct 2, 2014]
“Asset purchases could be expanded to corporates and supra-nationals but ultimately sovereign bonds are inevitable, given this is the only market sizable enough for the ECB to meet its targets…Our universe eligible corporate bonds of EUR580bn (with buying unlikely to exceed EUR150bn) is still leaving the ECB well short of its targets.”
[RBS European Rates Research]
“Draghi outlined two contingencies which could prompt the ECB to implement additional measures: first, should the measures announced to date be deemed insufficient; and second, due to a reassessment of the inflation outlook…What form [a broadening of asset purchases] is likely to take is difficult to predict as there are various options open to the ECB. All have pros and cons. What we know is that to push the balance sheet towards its March 2012 level any time soon, the ECB will have to buy a wider range of assets, including in large markets which would presumably imply sovereign and/or bank bonds….There are, of course, drawbacks with both of those options… If the ECB remains reluctant to buy sovereign debt in the absence of clearer evidence of heightened deflationary risks, then it could announce a purchase programme for corporate bonds next month instead. This, however, would probably have the same drawbacks as the existing programmes in terms of difficulty in scaling up.”
[BNP Paribas Market Economics, Nov 6, 2014]
Sources
“Operational details of asset-backed securities and covered bond purchase programmes, ECB announcement”, 2 October 2014
http://www.ecb.europa.eu/press/pr/date/2014/html/pr141002_1.en.html
“Press conference on Governing Council Decisions, Mario Draghi”, Frankfurt, 6 November 2014http://www.ecb.europa.eu/press/pressconf/2014/html/is141106.en.html
“Press conference on Governing Council Decisions”, Mario Draghi, Frankfurt, 4 September 2014http://www.ecb.europa.eu/press/pressconf/2014/html/is141106.en.html
“A new phase of the ECB’s monetary policy”, Speech by Vítor Constâncio, Frankfurt, 6 October 2014
http://www.ecb.europa.eu/press/key/date/2014/html/sp141006.en.html
“ECB Watching: ECB cuts rates and announces QE1”, Barclays Economic Research, September 4, 2014.
“ECB: More in store”, BNP Market Economics, European Economic Commentaries, 6 November 2014.
“ECB Quickie: The three trillion trap”, RBS European Rates Research”, Goldman Sachs Research, October 1, 2014
“Call change: ECB to announce sovereign bond QE in H1 2015, March at the earliest”, Nomura Global Markets Research, November 6 2014.
“On Our Minds: ECB unlikely to reach the €1 trillion”, Societe General Economic Research, October 2, 2014.
