To “address unexpected and extraordinary inflation increases,” the ECB starts QT by “recalibrating” TLTRO III, which will further reduce its balance sheet.
By Wolf Richter for WOLF STREET.
The ECB is now scrambling to not fall further behind the Fed, as the euro got hammered below parity with the dollar and as 10% inflation is tearing up consumers and the economy. It will hike all three policy rates by 75 basis points – its deposit rate to 1.5%; its main refinancing rate to 2.0%; and its marginal lending rate to 2.25% — as “inflation remains far too high and will stay above the target for an extended period,” it said today.
The 75 basis points today come after 75 basis points in September and 50 basis points in July, for a combined 200 basis points in three meetings. The two 75-basis-point hikes were the biggest since 1998. The 200 basis points combined were the steepest three-meeting hikes ever.
It “expects to raise interest rates further, to ensure the timely return of inflation to its 2% medium-term inflation target,” it said. From around 10% now, long way to go, dear.
Starts QT with TLTRO III rather than bonds.
To “help address unexpected and extraordinary inflation increases,” the ECB said today that it will “recalibrate” the terms and conditions of its targeted longer-term refinancing operations (TLTRO III) to make these loans more expensive and less attractive for the banks, which will speed up the banks’ exit from those loans.
TLTRO III was a form of QE by lending directly to the banks. At the peak in June 2021, TLTRO III balances amounted to €2.22 trillion on the ECB’s balance sheet.
Effective November 23, the interest rate on those loans will “be indexed to average applicable key ECB interest rates,” the ECB said today. This raises the rates of those loans, making them more expensive and less attractive. The ECB will add three additional “voluntary early repayment dates” to let banks “partly, or fully, repay their respective TLTRO III borrowings before their maturity.”
The ECB reiterated today that its bond holdings under the Asset Purchase Program (APP) and its Pandemic Emergency Purchase Program (PEPP) will remain flat by replacing maturing securities with new securities.
So the loan holdings (TLTRO III) is where QT has started on the ECB’s balance sheet, rather than with its bond holdings (APP and PEPP). The TLTRO III balances have already dropped some. The changes of the terms and conditions announced today will cause those balances to drop further. The Bank of Japan has started QT similarly by reducing its loan holdings rather than its bond holdings.
The drop in the loan balances so far is responsible for the €61 billion decline in total assets from the peak in June 2021. And this form of QT will accelerate after the changes take effect in late November:
Inflation started surging in March 2021.
As in the US, inflation in the Eurozone began surging in early 2021, nearly a year before the war in Ukraine. In July 2021, it blew past the ECB’s target. In February 2022, it hit 5.9%. For nearly all of this time, the ECB brushed off this raging inflation. And then it went from there to 9.9% in seven months. And now, way too late, the ECB is taking inflation seriously:
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