Thursday, March 4, 2010

The ECB will stick to full allotment in Q2 $ECB

The ECB will stick to full allotment in Q2

We have previously said that the ECB will move from fixed-rate full allotment to fixed allotment variable rate tenders in the long term refinancing operations (LTRO) from mid- April. Given the uncertainty about Greece, the fragility of the recovery in Euroland and the nervousness of the market, we lean towards thinking that they will stick to full allotment on both the one- and three-month auctions throughout Q2 (see chart).

Weber has however on 11 February said that: "The most likely next issues in our discussions will be the gradual return to normal tender procedures in the longer-term operations.", and further "This will probably not happen for all different maturities at the same point in time. It will be a gradual process. The full allotment mode for MROs will probably be needed for some time, while other measures are not all needed to the same degree anymore.". Mr. Weber’s comments could be an indication that the ECB moves to variable rate tenders on three month auctions and then stick to full allotment on one month auctions.

The Governing Council will then wait for the June meeting to announce that they move to variable rate tenders on the remaining LTRO. If the ECB moves to variable rate tenders in the LTRO from mid-April, it will be fixed allotments with large amounts. If the amounts are big enough it will not make a big difference whether the ECB move to fixed allotment or not, but it will nevertheless be a hawkish signal and we might see a relatively strong market reaction if the ECB just moves ahead with its exit strategy despite the concerning developments in Greece.

We expect that the final six months auction will be at 1.0%. There is a small risk that the ECB will opt for an indexed rate as they did with the 12-month auction in December, but it doesn’t really matter much as we will most likely not see a rate hike from the ECB within 6 months. If the ECB moves to an indexed rate it will be seen as a hawkish signal, and it might reduce demand at the auction somewhat but the market reaction will nevertheless be limited and short-lived.

For the main refinancing operations we stick to our expectations of full allotment for the
rest of the year.

ECB staff projections broadly unchanged

The new ECB staff growth projections will be broadly unchanged from December, which reflects that the negative impact of the disappointing 0.1% GDP growth in Q4 2009 is countered by a slightly more positive assessment of the growth prospects for 2010, partly driven by the improved expert prospects resulting from the EUR/USD depreciation albeitTrichet might reiterate that we have a bumpy road ahead of us. The ECB inflation projection for 2010 might be revised slightly downward from the current 1.3%. Inflation stood at just 1.0 % in January and core inflation declined to 0.9% from 1.1%. We project core inflation to decline further before bottoming in the summer and we do not see inflation this year at much above 1.0%. Further EUR depreciation may of course put more upward pressure on inflation.

ECB collateral

Trichet might give some support to Greece by saying something along the lines that whether euro area government bonds can be used as collateral at the ECB is not determined solely by rating agencies.

The ECB has previously said that it will not alter its collateral framework for one country, but it is possible within the framework to allow Greek government bonds to be used as collateral even if they are downgraded further by rating agencies. A statement of this kind on ECB collateral would result in some spread tightening, but the ECB might not be willing to lend such support to Greece just yet. After all, Greece has not made many friends recently with their eagerness to blame everyone else for their home-grown problems.


ECBDovish fullalotment -

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