Tuesday, 04 June 2013

No action, but more talking

Minor changes to growth forecast, but inflation outlook will be revised lower No spectacular new decision is expected, but Mr. Draghi will signal that ECB has more bullets left. by talking about SME financing and a negative deposit rate

No new decisions expected, but....

Wedontexpectanymajorpolicyannouncementon ThursdaysECBmeeting.TheECBtookaseriesof initiativesatitsMaymeeting(seesummarybelow). Introducingmoremeasureswouldbedifficulttojustifyat thisstage.Theunderlyingsituationdidntchange.The newECBstaffprojections,onwhichwewillbriefly commentbelow,wontshowsubstantialrevisionsin growth,evenifthe2013inflationforecastis downwardlyadjusted.However,webelievethattwo itemswillmakethepressconferenceafterwards interesting:facilitatinglendingtosmallandmedium sizedfirms(SMEs)andtheissueofanegativedeposit rate.DiscussionsontheseissueswillallowMr.Draghito showthattheECBhassomebulletslefttouseif needed.Whetherthiswillhaveanimportantimpacton marketsisunlikely,asthefocuswillbeonFridays releaseoftheMayUSpayrollsreport.

25basispointsto0.50%waswidelyexpected,butathis pressconference,Mr.Draghistruckamoredovishtone thancouldhavebeenenvisaged.Hesuggestedthatthe ECBwouldbewillingtoeasepolicyfurtherifeconomic conditionwarrantedsuchdecision.Thiseasingwould mostlikelycomethroughafurtherreductionofrates, evenifthatwouldtaketheECBdepositrateintothe largelyunchartedterritoryofnegativevalues. Othertakeawaysconcernedliquidity,fiscalpolicyand lendingtoSMEs.Tokeepawayanydoubtsthatliquidity concernswouldpreventbanksfromfinancingfirmsand households,theECBprolongedtheperiodinwhichECB liquidityisprocuredunderthefullallotment/fixedrate proceduretomid2014.Onfiscalpolicy,MarioDraghi struckaconciliatorytoneinrelationtotheprospectof somepullbackinthedegreeoffiscalausterityintheeuro area.Ratherthanexhortingspeedyandsweepingbudget actionastheECBhasconsistentlydoneinthepast,Mr Draghiarguedthatcountriesshouldnotunraveltheir effortstoreducegeneralbudgetdeficits.OnSME lending,Mr.Draghisuggestedthatnodramaticsupport initiativesshouldbeexpected.

Summary conclusions May meeting

AttheirMaymeeting,theECBmadealotofdecisions, whichtakentogether,certainlyexceededmarket expectations.TheECBandMr.Draghiapparentlywere afraidtodisappointmarkets.Thecutoftherefirateby

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Tuesday, 04 June 2013

Economic context slightly better

Theeconomicdataflowhasbeenslightlybetterthanin thepasttwomonths.Thenewgrowthforecastsshould belittlechangedcomparedtotheMarchones,but inflationforecasts,for2013,shouldberevised substantiallylower. TheMayEMUPMIsurveywasawaitedwithsome anxiety,afterthedeclineoftheChinesePMIbelowthe 50threshold.Fearsaboutafasterpaceofdeclining activitywereoverlypessimisticthough.The manufacturingPMIrosefrom46.7inAprilto48.3inMay, asubstantialimprovementandthehighestlevelsince February2012.Thisindicates,thatwhileactivityisstill contracting(<50),itoccursata(much)slowerpace.The advancewasgeographicallybroadbasedwiththe peripheralPMIsmakingagainmoreprogressthanthe corePMIs. Similarly,theservicesPMIindex,forwhichonlythe preliminaryreadingisavailable,roseto47.5inMayfrom 47previously.BothGermanyandFrance,forwhich nationaldataarealreadyavailable,showedsomepick up,buttheoverallPMIdidbetter,suggestingthat peripheralcountriesPMIsareoutpacingthecore countriesslightly,intheservicesector.However,these countriesPMIsshouldstillpointtoacontractionin activity.AnothersharpincreaseofthesurveysinJune mayallowtheeuroareatoavoidaseventhconsecutive quarterofnegativegrowth,butitremainsaclosecall. Unemploymentandyouthunemploymenthaverisen rapidlyandnowtopsthelistofthehotpoliticalitems. TheECB,contrarytotheFed,hasnounemployment objective.Nevertheless,itaffectstheECB,especiallyas politicalauthoritiesaredesperatetofightunemployment andthusputpressureontheECBtohelpturnthe negativetrend.InApril,theeurozoneunemployment rateextendeditsuptrend,risingtonewhighs.The unemploymentrateincreasedfrom12.1%to12.2%,in linewithexpectations.ComparedwithMarch,the numberofpeopleunemployedincreasedby95000, accordingtoEurostatestimates,whichbringstotal unemploymentto19.375million.(Unemploymentrates increasedthemostinCyprus(15.2%from14.6%),Spain (27.5%from27.2%)andAustria(5.0%from4.8%)and droppedonlyinIreland(11%from11.2%)).

GraphunemploymentrateEMU(black)&US(orange):USrate declinedslowlybutsurely,whileEMUrateonlyincreased.Why thisdivergence?SomesoulseekingneededforEuropean policymakers

TheECBcouncilwillhavethenewstaffgrowthand inflationprojectionswhenitstartsitsmonthly deliberationsonThursday.InMarch,theECBstaffput growthat0.5%for2013,followedbyatepid1%increase for2014.Wedontexpectnoticeablechangesinthenew projections.Ourinhouseforecastsare0.6%in2013and +1.1%in2014.Thestaffprojectionswerefinalizedbefore thereasonablyencouragingMayPMIs,butnevertheless, aneventualdownwardrevisionwouldbeminimal. Regardinginflation,eurozoneCPIinflationpicked slightlyupinMayaccordingtothefirstestimate.The annualrateofinflationrosefrom1.2%Y/Yto1.4%Y/Y, reversingpartofthepreviousmonthsplunge(whenit fellto1.2%Y/Yfrom1.7%Y/Ypreviously).Theoutcome wasinlinewithexpectations.Coreinflation,which excludesfood&energy,edgeduptoo,from1.0%Y/Yto 1.2%Y/Y,butremainswellbelowtheMarchlevelof1.5% Y/Y.Thebreakdownsuggeststhatallfourmainsub componentscontributedtotheincreaseintheheadline figure.Afterlastmonthsplungeininflation,worries aboutdeflationpoppedup,butthisoutcomesuggests thattheplungewasatleastpartlyduetospecial factors,whichmighteasedeflationfears.Nevertheless, weseethedowntrendcontinuethisyearbeforeturning in2014.Ourinhouseinflationforecastamountsto1.2% in2013and1.6%in2014.InMarch,theECBstaff projected2013inflationat1.6%followedbya1.3% increasein2014.So,weexpectarathersharpdownward revisioninthe2013inflationprojectionandanupward onein2014.ThismightbecomeapolicyissuefortheECB asinflationwouldmovefurtherawayfromitstarget (below,butcloseto2%).

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Tuesday, 04 June 2013

Lending to small and medium sized enterprises

Inanumberofperipheralcountries,thebankingsectoris stillindirestraits.Asaconsequence,smallandmedium sizedfirmshavedifficultiestofinancetheiractivities.The deepandprotractedrecessionsintheperiphery weakenedthesolvencyofmanyfirms,makingbanks reticenttolend.However,weaknessinthebanking sectorisalsopartoftheproblem.Banklossesdepleted thecapitalbasisandcapitalrequirementsareregularly increasedintheBaselframework.Morelendingto SMEsrequiresmorecapital,thatbanks,witha weakenedcapitalbasis,cannotraise.Asaresult,many peripheralbanksdeleverabruptly.Forbiggerfirmsthe issueislessurgentastheyoftenfindmeansonthe corporatebondmarket,towhichSMEshavenoaccess. TheECBisawareoftheproblemsandislookingfor solutions.Abundantliquidity,whichtheECBalready delivers,isnoanswer,asitisbasicallyacapital/solvency problem.Therefore,afundingforlendingtypeof programme,liketheBankofEnglandrunsandis propagatedbysome,haslittlechancetobeadopted. SeveralECBgovernors,includingMr.Draghisuggested thattheABSmarket,securitizedloanstofirms,whichis currentlymalfunctioning,ismorepromising.Oneofthe reasonstheABSmarketmalfunctions,besidesthetoxic associationwiththesubprimecrisis,arethehaircuts appliedontheseassets.Thesearetoohigh,diminishing thevalueofABSfortherepomarket.Inaddition,the capitalrequirementsforABSarehigherthanmanyother similarproducts. Loweringthehaircutisoneoption,butitraisesthecredit riskfortheECBoranyothercounterparty.Onestep furtherwouldbetheoutrightpurchaseofABSbythe ECB.Itwouldlightenthebalancesheetsofbanksand freecapitaltolendmoretosmallandmediumsized firms.Variousissuesremainthougheveninthiscase. First,theECBdoesntliketotakemorecreditriskonits booksandlooksforotherpartieswhomightbewilling tobuyABS.TheEuropeanInvestmentbank(EIB),whose shareholdersaretheEUcountries,isoneobvious candidate.TheEuropeanStabilityMechanism,whose shareholdersaretheEMUcountries,maybeanother candidate.TheEIBisalreadymemberofaworkinggroup establishedbytheECBtostudyhowtorevivetheABS market.EUpresidentVanRompuysaidovertheweekend thatlendingtoSMEsiscrucialfortherecoveryandfor thefightagainstunemployment.SMEsdeliverthelions shareofnewemployment.Headdedthatheexpectsthe EIBtosignificantlyexpandlendingtoSMEs.Van RompuyseesscopeforjointactionsofECBandEIBon financingofSMEs.So,onesolutionmightbethatEIB buysABS,helpingbankstolightentheirbalancesheet

andallowingthemtoplayabiggerroleinfinancing SMEs.TheEIBlacksthemoneyneededforthese purchasesandsodogovernments.TheECBcouldgive theEIBtheliquidityneededviareposwithABSas collateral.Otherschemesarepossibleanditisperhaps morelikelythatanannouncementismadeatthenext ECBmeetinginJulyorattheEUSummitattheendof themonth,butitmightbeoneofthemaintopicsatthe pressconference.However,evenifthisschemeis withheld,successisnotguaranteed.Itwillnotonly dependonloweringthehaircut,butalsoonthepricethe EIBwantstopayfortheABS.Banksshouldseean advantageinbundlingSMEcreditontheirbooks,selling ittotheEIBandreplacingitwithnewSMEloans.AnFT articlepublishedearliertoday,afterredactionwas finished,suggeststhattheECBisbackingawayfrom usingabigbazookatoboostcredit.

Negative deposit rates?

Theissueofapossiblenegativedepositratereentered thedebateonmarkets.AlreadyinDecember,theECB presidentsaidthattheECBwasoperationallyreadyto handlenegativeratesalthoughheaddedthatthe discussiondidntgointodepthonthispoint.Concerns thatnegativepolicyinterestrateswouldhavean uncertainandpossiblydamagingimpactonsome financialinstitutionshavemadecentralbanksreluctant tocountenanceactionofthissort.So,theissuewentoff theradarforsomemonths.AttheMayECBpress conference,Draghisurprisinglysaid:wesaiditinthe past:wearetechnicallyready.Thereareseveral unintendedconsequencesthatmaystemfromthis measure.Wewilladdressandcopewiththese consequencesifwedecidetoact.Wewilllookatthiswith anopenmindandwestandreadytoactifneeded.This wentfurtherthaninDecemberandsuggestedthatifthe ECBneedstoeasepolicyfurther,itmightdoitvialower interestrates,evenifitwouldmeannegativedeposit rates.Afterthemeeting,somegovernorssaidtheywere surprisedbyDraghiscomments,becausetheissue wasntseriouslydiscussed.ItseemedtousthatMr. Draghiwantedtoimpressthemarkets,maybeinthe samesuccessfulwayashedidwiththeOMTprogramme andhis,famousstatement,todowhateverittakes. Westillthinkthatthechancesofadepositratecut belowzeroaresmall,buttheyarenotzero.Itisakindof nuclearoption.Anegativedepositratecoupledwitha lowerrefiratewouldreducemoneymarketratesatthe frontendofthecurveandcouldturneonianegative.It wouldgetroundthezeroratebound.Thiswillcost bankswithlargeexcessreservesattheECBmoney.To avoidthis,thecentralbankhopesbankswillusethis excessliquiditytobuyhigheryieldingassets,tolenditin
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Tuesday, 04 June 2013

theinterbankmarket,tobuygovernmentbondsorother assets,ortoincreaselendingtobusinessesand households.Itisunlikelythatbankswillusethisexcess liquiditytolendoutmore,ascapitalandnotliquidity shortageisbehindthecautiousnesstowardslending. Anegativedepositrateshasmanysideeffectsthatare moreimportantthantheadvantages.Itnegatively impactstheprofitabilityofthebankingsector,asitis unlikelybanksincreasetheratestheychargeforlending. Inthecontextthatbanksneedtobuildbiggercapital buffers,lowerprofitabilityisnotwhatisneeded.In Denmark,negativeratesresultedinbanksraisingallkind ofchargesonlending.Second,moneymarketfunds,an importantfundingsourceofbanks,mightnotbeableto guaranteetherestitutionoftheprincipaltotheir customers.Theymightlosemostoftheircustomers. Finally,ifbanksdolowerratesfortheircustomersto nearzero,thesemaystarthoardingbanknotes. IntroducingnegativedepositrateswouldputtheECBin unchartedterritory.Nomajorcentralbankhasdoneit before.Itwouldcertainlybedifficulttoselltheideain

countrieslikeGermanywhereaconservativemonetary policyhasbeenthecornerstoneofthepolicyframework. Lookingattheindividualopinionsofthegovernorsonthe issue,thepictureisnotclearyet.ECBEexecutiveBoard membersAsmussenandMerschseemagainsttheidea andsoareBdFNoyer,BubasWeidmannandNBBCoene. InfavourareBOIViscoandmaybetheSlovakgovernor Makuch.Alotofgovernorshavenotmadeuptheirmind andothersmaychangetheirviewsduringeventual discussions,whichapparentlydidnttakeplaceyet. However,marketswillbeverysensitivetoanycomment ofthesubject.Theeoniastripcurvebrieflyshifted belowzeroinDecember,whentheideawasfirst floated,buthassince,alsoaftertheMaymeeting, remainedabovezero,suggestingthemarketisnot discountingsuchamove.Ofcourse,surprisesarewhat thedrivesmarketsandanyquotefromDraghionthe subjectmaybeveryimportant. PietLammens,KBCdealingroom
.

Contacts

BrusselsResearch(KBC) PietLammens PeterWuyts JokeMertens MathiasvanderJeugt DublinResearch AustinHughes PragueResearch(CSOB) JanCermak JanBures PetrBaca BratislavaResearch(CSOB) MarekGabris WarsawResearch BudapestResearch +3224175941 +3224173235 +3224173059 +3224175194 GlobalSalesForce Brussels CorporateDesk CommercialDesk InstitutionalDesk London Frankfurt Paris NewYork Singapore Prague Bratislava Budapest

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+35316646892 +420261353578 +420261353574 +420261353570 +421259668809

ALLOURREPORTSAREAVAILABLEONWWW.KBCCORPORATES.COM/RESEARCH
Thisnonexhaustiveinformationisbasedonshorttermforecastsforexpecteddevelopmentsonthefinancialmarkets.KBCBankcannotguarantee thattheseforecastswillmaterializeandcannotbeheldliableinanywayfordirectorconsequentiallossarisingfromanyuseofthisdocumentorits content.Thedocumentisnotintendedaspersonalizedinvestmentadviceanddoesnotconstitutearecommendationtobuy,sellorholdinvestments describedherein.AlthoughinformationhasbeenobtainedfromandisbaseduponsourcesKBCbelievestobereliable,KBCdoesnotguaranteethe accuracyofthisinformation,whichmaybeincompleteorcondensed.AllopinionsandestimatesconstituteaKBCjudgmentasofthedataofthe reportandaresubjecttochangewithoutnotice.

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