The European Central Bank is exploring raising its limit on purchases of EU-issued bonds, in a move that would enhance its flexibility in asset-buying schemes and boost the status of the bloc’s groundbreaking joint debt programme launched this year.
Four ECB governing council members told the Financial Times they would support increasing the share of public sector bond purchases that target debt issued by international bodies such as the EU, from the current cap of 10 per cent. They expect to discuss the idea at two special council meetings starting in November to decide how much support to provide for financial markets from next year. The plan would need majority support from the ECB council’s 25 members. The ECB declined to comment.
The mooted shift in ECB strategy comes as the European Commission plans to expand the amount of bonds it issues next year under its €800bn NextGenerationEU recovery fund — the vehicle agreed in the summer of 2020 to fund the pandemic response with debt backed jointly by member states.
Brussels aims to issue €80bn of bonds for the fund this year and almost double that amount next year, transforming the EU itself into one of Europe’s biggest bond issuers. Any extra support from the ECB would be likely to cut the EU’s funding costs and help to boost the status of the bloc’s bonds as a regional benchmark — a role previously dominated by German Bunds.
A tilt towards buying more EU bonds would also help the ECB to support financial markets without butting up against rules that bar it from owning more than a third of any individual country’s government debt. Some analysts think it could hit those limits on German and Dutch debt by 2023.
“Lifting the limit on supranational purchases would be a way for the ECB to generate more room for manoeuvre on government bond purchases and to also show support for this important EU programme,” said Elga Bartsch, head of macro research at the BlackRock Investment Institute.
The ECB is expected to announce in December that its pandemic emergency purchase programme (PEPP), the €1.85bn bond-buying scheme that it launched in response to the Covid-19 crisis, will end in March.
The four council members said they expected the central bank would examine ways to retain at least some of the extra flexibility that came with PEPP, which is exempt from the limit on national government purchases.
One of them said the ECB was also working on ways to continue buying Greek government debt, which would otherwise be excluded by its rule against buying bonds with credit ratings below investment grade — another restriction lifted under PEPP.
However, the idea of expanding asset purchases is likely to meet opposition from more conservative members of the ECB’s governing council, including Germany’s Jens Weidmann and Klaas Knot of the Netherlands.
These so-called hawks are typically uncomfortable with the ECB snapping up bonds, especially outside of acute periods of crisis, worrying about the over-reliance of governments on the purchases to support high debt levels.
A crucial factor in the debate will be whether the ECB continues to forecast that inflation will fall back below its 2 per cent target next year and stay there over the next two years. The central bank is due to update its inflation forecasts and issue a new prediction for 2024 in December.
Soaring energy prices and supply chain bottlenecks have prompted some ECB policymakers to fret that the bank is underestimating future price growth. Nonetheless, few analysts expect a hard stop in the ECB’s debt-market support once PEPP expires. Instead, they widely forecast that the central bank will expand its traditional asset purchase programme, which has been buying €20bn of bonds a month alongside PEPP purchases.
“I expect they will continue to revise up their inflation forecasts until the second half of next year,” said Frederik Ducrozet, strategist at Pictet Wealth Management. “But I still think the asset purchase programme will continue to the end of 2023.”
Several of the council members said the ECB could shift from buying a fixed monthly amount of debt in the traditional asset purchase programme to targeting a total of overall purchases. They said it could also create a new “backstop fund” on top of the asset purchase programme, to be used only in response to disruption in financial markets.
François Villeroy de Galhau, the French central bank governor and an ECB council member, said last week that the bank could maintain capacity for extra asset purchases in emergencies, adding that “the theoretical possibility of their use, would mean that we would probably not have to actually use them”.