November 15, 2017 / 10:21 AM / a year ago

ECB's rate guidance to gain prominence in stimulus: Praet

FRANKFURT (Reuters) - As lavish bond buys are wound down, the European Central Bank will increasingly rely on its longer term commitment about interest rates to guide markets and provide stimulus, ECB chief economist Peter Praet said on Wednesday.

A commuter train passes over a bridge next to the headquarters of the European Central Bank (ECB) in Frankfurt, Germany, October 1, 2017. REUTERS/Kai Pfaffenbach

With a 2.55 trillion asset purchase stimulus scheme already reduced and seen ending next year, the ECB has promised to keep rates low for an extended period, hoping investors will believe that cheap money will be around even if crisis-era tools are slowly unwound.

Its forward guidance, an innovative tool to influence longer-term borrowing costs when central bank rates hit zero, now indicate that the bank intends to keep rates at their current level ‘well past’ the end of bond buys, now slated to finish next September.

“As we progress towards a sustained adjustment in the path of inflation and approach the time when net purchases will gradually come to an end, the residual monetary support needed to assist the economy in its transition to a new normal will increasingly come from forward guidance on our policy rates,” Praet said.

“Policy rates will eventually regain their status as the main instrument of policy, and our forward guidance will revert to a singular approach,” he told a conference in Frankfurt.

The comments also suggest that forward guidance may remain part of the ECB’s policy arsenal over the longer period, as proposed by ECB President Mario Draghi on Tuesday.

As rates are unlikely to rise back to their pre-crisis levels over the next decade, the scope for interest rates moves has diminished, elevating the role of promises about future rates in guiding investors.

Markets see the first rate hike, a token increase in the bank’s deeply negative deposit rate, only in the second half of 2019 with any further hike coming very slowly.

But even if policy normalization is incremental, solid euro zone growth suggests that the ECB will be able to tighten policy further after agreeing last month to cut bond buys in half.

Indeed, Estonian central bank chief Ardo Hansson said he is becoming increasingly confident that inflation will rise, providing scope for a further recalibration of ECB stimulus.

“With greater confidence in the outlook for the real economy there is some scope for a prudent but obvious recalibration of policies,” Hansson, a relatively hawkish member of the rate setting Governing Council, told a banking conference in London.

Reporting by Francesco Canepa and Balazs Koranyi; Additional reporting by Helen Reid and Marc Jones; Editing by Catherine Evans

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