| FRANKFURT, March 29
FRANKFURT, March 29 European Central Bank
policymakers are wary of making any new change to their policy
message in April after small tweaks this month upset investors
and raised the spectre of a surge in borrowing costs for the
bloc's indebted periphery.
One ECB source said the bank has been overinterpreted by
markets at its March 9 meeting.
Taken aback when markets started to price in an interest
rate hike early next year, policymakers are keen to reassure
investors that their easy-money policy is far from ending,
suggesting reluctance change message before June, six sources in
and close to the Governing Council indicated.
While the current level of bond yields remains acceptable, a
further increase would be problematic, particularly in places
like Italy, Spain and Portugal, where debt payments are a major
cost item and rising yields would curb spending and thwart
With the euro zone economy on its best run in almost a
decade and conservative policymakers# keen to start winding down
stimulus, the ECB gave a small nod to improvement with a tweak
of its guidance in early March, axing a reference to being ready
to act with all available instruments.
But that message did not come across as hoped.
"We wanted to communicate reduced tail risk but the market
took it as a step to the exit," one of the sources said. "The
message was way overinterpreted."
Indeed, yields surged and investors quickly priced in a rate
hike for the first quarter of 2018, even as policymakers tried
in vain to play down those expectations.
The market move was exacerbated when Austrian central bank
chief Ewald Nowotny openly discussed another possible change in
bank's guidance, hinting at a major debate under the surface, a
speculation the sources dismissed.
ECB chief economist Peter Praet has been in damage control
since, arguing that there is "strong logic" backing up the
guidance, which stipulates that asset buys would have to end
before any interest rate hike.
The ECB declined to comment.
With inflation below the ECB's target for four straight
years until recently, the bank has cut rates deep into negative
territory and plans to buy at least 2.3 trillion euros worth of
bonds, all in the hope of cutting borrowing costs enough to
revive growth and with it inflation.
Some have argued that with the economy on more solid
footing, the ECB could soon eliminate the punitive interest rate
charge, raising the deposit rate to zero, even as asset buys
"That would be a communication nightmare," one of the
sources said. "If you raise rates, you can't communicate that
it's a one off, only back to zero, then we stop again."
"The market would immediately price in a new rate path,
pushing the entire curve sharply higher," the source added
With the euro zone government debt at 91.3 percent of GDP,
not far below the 94.5 percent peak in 2014, governments can
hardly afford big rise in borrowing costs as a yield rise could
cap public spending, thwarting investment and growth.
The sources also argued that the market may not be
accurately pricing risks related to the new U.S. administration,
like the possibility of trade wars, protectionism, financial
deregulation or President Donald Trump's difficulty in pushing
his agenda through Congress.
Banks, the biggest losers from negative rates, have
meanwhile benefited from the steepening of the yield curve this
year so there is no urgency to give them a hand, the sources
Inflation having hit 2 percent last month, essentially
meeting the ECB's target, also put some pressure on policymaker
as German criticism of loose monetary policy heated up.
"Inflation has peaked for now and the oil price is down 10
percent so we are far having to worry about too much inflation,"
a third source said.
While the sources acknowledged unexpected strength in the
underlying economy, they said it was difficult to communicate
this through its policy statements, especially with underlying
inflation showing few signs of moving up.
"A small change in the wording can easily be blown out of
proportion," one of the sources said. "There is a communication
risk and I would argue for stability."
(Editing by Jeremy Gaunt)