ECB to match purchases to supply? So what else is new?
It's time to accept the truth about quantitative easing
The European Central Bank’s chief economist Philip Lane recently admitted that “you cannot think about the volume of the asset purchase programme independently of the volume of net bond supply”. It's about time somebody said it.
On one level, what he said is obviously true. The ECB’s public sector purchase programme must not hold more than 33% of the bonds of any government. It follows that if supply decreases, the ECB’s headroom for purchases also goes down.
But that’s not what Lane was talking about. His next words were: “The relatively high fiscal deficits that we saw last year and this year will not be lasting in the coming years, but the scale of deficits may remain higher than the pre-pandemic levels.”
So he’s not talking about low deficits translating into reduced purchases. He’s talking about high deficits and increased purchases.
Establishing a relationship between the expansion of government deficits and greater quantitative easing begins to smack of monetary financing, which is prohibited by Article 123 of the EU treaty.
The ECB may not break the law and begin monetary financing. But the distinction it is drawing between what it is doing and the forbidden practice are becoming increasingly academic.
Which of the following sounds like the more important determiner of whether a bond purchase programme crosses the line into monetary financing? Whether the ECB limits its purchases of government bonds to the secondary market? Or whether it scales its purchases to absorb the supply of government debt? Arguably the latter.
But semantics aside, what is the problem?
Look at the Bank of England. Its asset purchase facility has matched the net supply of Gilts with eerie precision, considering that the two figures are ostensibly uncorrelated. But despite the thinly veiled coordination between central bank and treasury, sterling remains a hard currency, experiencing no more inflation than other developed countries.
Lane’s admission that the ECB is considering deficits when calibrating its purchase volumes is a breath of fresh air. It might rile German, Dutch and Austrian hawks who are concerned about QE infinity and the consequences of central bank policy that, in their eyes, chronically overreaches. The subject may even become a factor in the upcoming German election.
But the fact is that it was happening anyway, as anyone who had been paying attention would have noticed.
Most analysts’ projections for 2022 ECB purchases were around €400bn-€500bn, roughly in line with projected supply of eurozone government bonds.
Lane's statement does not amount to a policy change — merely an acknowledgement of the status quo. More honesty and transparency regarding the inputs to central bank functions make for a better informed investor base and a more efficient market.