To “deal with unexpected and extraordinary increases in inflation”, the ECB launches QT by “recalibrating” TLTRO III, which will further reduce its balance sheet.
By Wolf Richter for WOLF STREET.
The ECB is now scrambling not to fall further behind the Fed, as the euro has fallen below parity with the dollar and 10% inflation is tearing consumers and the economy apart. It will raise all three policy rates by 75 basis points – its deposit rate to 1.5%; its main refinancing rate at 2.0%; and its marginal lending rate at 2.25% – because “inflation remains far too high and will remain above target for an extended period,” he said today.
Today’s 75 basis points come after 75 basis points in September and 50 basis points in July, for a total of 200 basis points in three meetings. The two 75 basis point increases were the largest since 1998. The combined 200 basis points were the largest three-meeting increases on record.
It “plans to raise interest rates further, to ensure inflation quickly returns to its medium-term inflation target of 2%,” he said. From around 10% now, there is still a long way to go, my dear.
Starts QT with TLTRO III rather than Bonds.
To “help cope with unexpected and extraordinary increases in inflation”, the ECB said today that it will “recalibrate” the terms and conditions of its Targeted Longer-Term Refinancing Operations (TLTRO III) to make these loans more expensive and less attractive to banks, which will accelerate the exit of banks from these loans.
The TLTRO III was a form of QE by lending directly to banks. At a peak in June 2021, TLTRO III balances stood at €2.22 trillion on the ECB’s balance sheet.
From November 23, the interest rate on these loans “will be indexed to the applicable average key ECB interest rates”, the ECB said today. This raises the rates for these loans, making them more expensive and less attractive. The ECB will add three additional “voluntary prepayment dates” to allow banks “to partially or fully repay their respective TLTRO III loans before maturity”.
The ECB today reiterated that its bond holdings under the Asset Purchase Program (APP) and its Pandemic Emergency Purchase Program (PEPP) will remain stable by replacing securities coming to maturity by new titles.
So the loan holdings (TLTRO III) are where QT started on the ECB’s balance sheet, rather than its bond holdings (APP and PEPP). TLTRO III balances have already fallen. The changes to the terms and conditions announced today will cause these balances to drop further. The Bank of Japan similarly launched QT by reducing its holdings of loans rather than its holdings of bonds.
The decline in loan balances so far is responsible for the €61 billion drop in total assets from the June 2021 peak. And this form of QT will accelerate after the changes take effect at the end of november :
Inflation started to soar in March 2021.
As in the United States, inflation in the euro zone began to soar in early 2021, almost a year before the war in Ukraine. In July 2021, it exceeded the ECB’s target. In February 2022, it reached 5.9%. For most of that time, the ECB brushed off this runaway inflation. And then it went from there to 9.9% in seven months. And now, far too late, the ECB is taking inflation seriously:
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