07/04/2016 Press Release
Account of the monetary policy meeting of the Governing Council of the European Central Bank ... held in Frankfurt am Main on Wednesday and Thursday, 9-10 March 2016
1. Review of financial, economic and monetary developments and policy options
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Financial market developments
Mr Cœuré reviewed financial market developments since the Governing Council’s previous monetary policy meeting on 20-21 January 2016. The global economic outlook had deteriorated further, accompanied by bouts of market volatility, particularly in markets for bank liabilities. Oil prices had rebounded in February after having fallen to their lowest level since 2003.
The outlook for oil prices remained uncertain, however, as the oil market was still experiencing over-supply and global oil inventories remained at very high levels. The potential for a lasting rebound in the oil market was unclear, according to market participants. Market-based indicators of inflation expectations had continued to broadly follow the price of petrol, but not the recent rebound in the price of crude oil, and the five-year forward inflation-linked swap rate five years ahead had reached a historical low of 1.36% on 29 February.
Against the background of concerns about global growth and continued risk-off sentiment in global markets, monetary policy expectations had been re-priced across all major currency areas, becoming more accommodative, with less divergent monetary policy expectations among the different monetary areas.
In the United States, market expectations for the next rate hike had been pushed back significantly, with a sharp re-pricing between January and February, followed by some correction in the light of recent better than expected indicators, in particular inflation. A 25 basis point rate hike in the United States was not fully priced in until December 2016, which was well beyond what had been expected at the beginning of the year. Similarly, in the United Kingdom, money market forward rates had shifted considerably lower, with the Sterling Overnight Index Average forward curve becoming inverted, fully pricing in a 10 basis point rate cut by the end of 2016. This was in stark contrast to what had been expected at the beginning of 2016.
The euro nominal effective exchange rate, measured against 19 major trading partners, had remained broadly unchanged since the previous monetary policy meeting, with a brief interim episode of a 2.5% appreciation of the euro. This temporary move had resulted from the depreciation of the currencies of the euro area’s three main trading partners: the US dollar, the pound sterling and the Chinese renminbi. In the case of the pound sterling, the uncertainty surrounding the outcome of the UK referendum on EU membership, scheduled for 23 June, had risen and investors in the foreign exchange options market were increasing their purchases of downside protection on the currency.
The People’s Bank of China had decided on 29 February 2016 to cut the reserve requirement ratio by 50 basis points to counter the slowdown in economic growth and improve liquidity conditions. This was the fifth consecutive cut since February 2015, amounting to a cumulative decrease of 300 basis points, from 20% to 17%.
The decision by the Bank of Japan on 29 January 2016 to adopt a negative deposit rate structure had reverberated through global financial markets, contributing to a sharp decline in global bank shares. Following the decision, the entire Japanese yield curve had shifted downwards by around 20 basis points.
Price volatility had negatively impacted market liquidity and funding activities in most euro area bond market segments since the Governing Council’s previous monetary policy meeting. While liquidity for highly rated sovereign bonds had remained fairly stable, liquidity for the respective jurisdictions’ covered bonds and agency bonds was currently rather reduced. With regard to private sector debt, a widening of spreads, for instance measured by the ITraxx series, had been observed in the period to mid-February 2016, not only for banks but also for non-financial corporations (NFCs), owing to concerns over growth and deteriorating liquidity in the corporate bond market; thereafter, some correction had taken place.
Supply in the corporate bond market had been very subdued, as NFCs had reduced their bond supply in spite of the low level of yields. Reportedly, corporations were cash rich and thus did not need to attempt to benefit from low yields, for instance by re-profiling their debt and extending maturities as sovereigns had done. At the same time, however, the overall debt supply was returning to higher levels, as covered bond issuers, sovereigns and agencies were again taking advantage of very attractive absolute low funding yield levels, in particular at the back end of the curve, to restructure their debt and issue bonds with longer maturities.
Since the Governing Council’s previous monetary policy meeting on 20-21 January 2016, the EONIA forward curve had shifted downwards by between 7 and 10 basis points and had reached levels below those prevailing before the December 2015 meeting. The market was firmly pricing in at least a 10 basis point cut in the rate on the deposit facility at the current meeting. In addition, the one-year forward EONIA swap rate one year ahead had declined to a new all-time low, at -53 basis points (on 3 March), and the entire EURIBOR cash curve was now in negative territory for the first time ever.
Finally, Mr Cœuré concluded that market participants remained attentive to a number of risks in the foreseeable future: the risk of a re-emergence of bank and/or sovereign risk in the euro area, volatility in commodity prices and its consequences for emerging market economies, and the risk of a further depreciation of the pound sterling after the referendum.
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