Ten, no more? Five questions for the ECB

LONDON, Oct 23 (Reuters) – The European Central Bank (ECB) has good reason to suspend policy on Thursday after raising interest rates in its past 10 meetings.

But conflicts in the Middle East are pushing up energy prices, creating another headwind for central banks battling soaring inflation. And traders want to know how long borrowing costs will remain high.

“The biggest challenge is to maintain balance, not sound like an aggressive hawk, but leave the door open to rate hikes,” said Carsten Brzeski, global head of macro at ING. .

Here are five important questions to ask the market.

1/ What can we expect this week?

The ECB has signaled a pause, and the market is pricing in no further rate hikes. Further upside is unlikely to be ruled out.

ECB President Christine Lagarde is likely to stick to her belief in long-term high interest rates, which have pushed up long-term bond yields.

Meanwhile, the ECB is likely to push back on expectations for rate cuts, although the slowing economy suggests there is limited need for further tightening.

“If they change their minds and think they have to do more, it will probably be early next year,” said Francis Yared, global head of interest rate research at Deutsche Bank. “They had pre-committed to letting the data speak for a while.”

Philip Lane, the ECB’s chief economist, said it would probably take until next spring before the ECB could be confident that inflation was coming down.

2/ Will the ECB discuss quantitative tightening?

The ECB is not expected to begin aggressive bond sales any time soon. Instead, the focus is on whether to bring forward the end date for reinvestment from the Pandemic Emergency Purchase Program (PEPP), which many people support, to December 2024.

A rise in Italian bond yields could dampen talk of an early end.

Under PEPP, reinvestment may be biased toward countries that need it most. Lagarde said this is the first line of defense against fragmentation, an excessive widening of yield spreads that reduces the effectiveness of monetary policy.

“Following the recent rise in (Italian) yields, no decision will be taken on the reinvestment of PEPP,” said Reinhard Kruse, chief economist at UBS. “There is still a certain amount of tension in the market. The ECB is not going to add fuel to the fire,” he said.

He added that a decision could be made in December or early 2024.

3/ What does the new rise in energy prices mean?

Gasoline prices in Europe have risen 35% so far this month, with oil prices above $93, raising fears of another rise in inflation.

Chris Jeffrey, head of interest rates and inflation at Legal & General Investment Management, said Europe, an energy-importing region, is more vulnerable than the United States to an inflation spike due to tensions in the Middle East.

He added that Lagarde is keen for now to “stay out” of the energy price debate until it becomes clearer whether the rise will be sustained.

UBS’s Cruz said energy prices would not represent a “significant change in the inflation outlook” as there is a strong disinflationary base effect.

E.C.B. I’m looking forward to it Headline inflation is expected to decline from an average of 5.6% in 2023 to 3.2% in 2024.

4/ What will the ECB do if relations with Italy go awry?

There aren’t that many at the moment.

Italy’s borrowing costs have risen amid a widening outlook for a budget deficit, with the gap with Germany widening to 200 basis points, prompting speculation that the ECB may need to intervene to calm markets. It is spreading in the department.

The Transmission Protection Scheme, a bond-buying scheme to further support indebted countries and prevent fragmentation, was added to the toolkit last year.

Five out of six sources told Reuters recently that there was no need to rush to intervene.

“They will try to stay on the sidelines as long as possible,” ING’s Brzeski said.

5/ What about stricter loan conditions?

September bank lending statistics to be released on Wednesday should provide some clues.

The amount of currency in circulation in the euro zone fell by a record amount in August as banks reined in lending and depositors locked up their savings.

The ECB will likely scrutinize this and other signs of tightening lending conditions. A sharp rise in U.S. bond yields is pushing up European borrowing costs, underpinning the argument that there will be no further rate hikes.

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