Reuters: ECB policymakers want bond markets to end quickly

European Central Bank policymakers want to end the bond-buying program as soon as possible and raise interest rates as soon as possible in July, but certainly not later than September, nine sources familiar with the ECB told Reuters.

The ECB has cut incentives at a slower pace this year, but rising inflation is now pressuring policymakers to end their nearly decade-long experiment with unconventional support.

The big hurdle so far has been that long-term forecasts still show that inflation will fall below the ECB target of 2%, but new estimates shared with policymakers at the April 14 meeting showed that even in 2024 Inflation will exceed the target, several sources said.

“It was just over 2%, so in my interpretation all the criteria for raising interest rates have now been met,” said one source, who asked not to be named.

Board members have long criticized the ECB for underestimating inflation, which reached 7.5% last month, and see the new forecast as a step towards recognizing reality.

“When (chief economist) Philip (Lane) presented the numbers, people really applauded,” another source said.

An ECB spokesman declined to comment. No policy proposals have been tabled yet, and the next ECB meeting is still more than a month away, on 9 June.

ECB President Christine Lagarde said on Friday that bond markets should end early in the third quarter and that an increase in interest rates is possible this year.

Almost all sources said they were seeing at least two interest rate hikes this year, but some said a third was possible, though it depended heavily on how markets would assimilate its moves.

Markets are pricing around 85 basis points for increases this year, so more than three moves of 25 basis points, which will restore the minus 0.5% deposit rate to positive ground for the first time since 2014.

Unblocking incentives, the ECB has long argued that it is simply normalizing its policy, is a vague concept with no defined parameters.

Policy makers who spoke to Reuters, however, said a normalization should mean a return to a neutral interest rate, which neither stimulates nor restrains growth.

They place it around 1% to 1.25%, ie 150 to 175 basis points above the current interest rate.

“Reaching this level by the end of 2023 could make sense,” said a fifth source.

Interest rates could rise, however, only when the bond markets are completed and all nine anonymous policymakers said it should happen on June 30th or July 1st.

This would mean that the ECB would be able to raise interest rates until its meeting on 21 July.

“Unless the prospects change dramatically, I would go for July,” said a third source.

Some sources, however, said they still prefer to wait until September, in part because new forecasts will be available by then and in part to avoid a significant policy move during the summer months when liquidity is lower.

The ECB last raised interest rates in 2011, on the eve of the debt crisis in the EU, a move that is now widely regarded as the biggest policy mistake to date.

“The memory of this move still haunts us,” said a fourth source. “Some people are afraid they will make a similar mistake.”

The US Federal Reserve is expected to tighten (its monetary policy) even faster. Markets are seeing a “tightening” of almost 250 basis points this year, with increases of 50 basis points expected in some sessions.

All ECB policymakers have stressed, however, that the outlook could change radically by then, as Russia’s invasion of Ukraine is a permanent threat to confidence and the COVID-19 pandemic is also not over.

Some policymakers have said a technical downturn, or two consecutive quarters of negative growth, is possible this year, but the rest of the year will remain positive.