In Focus: ECB Decision

ECB Decision

The ECB shocked/surprised markets last week by announcing a targeted, private-market QE program that will begin in October. This decision, combined with the start of the TLTRO, represents a significant bullish tailwind on the euro zone that should not be ignored.

What Happened:

The important event you need to be aware of from the ECB today was the announcement that it would begin purchasing “Asset-Backed Securities” and “Covered Bonds” starting in October.  This amounts to a “private-market QE” program, which was not expected by the market (and is very dovish).

Why It Is Important:

The ECB can’t do the type of QE we have here in the U.S. because there is no European equivalent to Treasuries.  Instead, there are individual countries’ bonds.  So, if the ECB were to try and do traditional QE on the scale of the Fed or Bank of England, it could very well end up owning all of smaller European countries’ debt (like Portugal, Ireland, etc.). So, public QE isn’t an option.

Instead, the ECB needs to do a more-targeted, private QE program, and that was what today’s announcement was about.

By buying ABSes and covered bonds (which are basically higher-rate ABSes), the ECB is directly funneling money into the real EU economy, which should help spur economic growth and, eventually, inflation.

This is how it works:  A European bank will now be able to bundle and sell performing loans on its books to the ECB. It would get cash in return, which it can then turn around and lend to businesses, thereby creating inflation (eventually) and economic growth.

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