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The headquarters of the European Central Bank, in Frankfurt am Main, Germany, on Jan. 23, 2020.DANIEL ROLAND/AFP/Getty Images

The European Central Bank will trim emergency bond purchases over the coming quarter, it said on Thursday, taking a first small step toward unwinding the emergency aid that has propped up the euro zone economy during the coronavirus pandemic.

After the ECB pulled out all the stops last year as COVID-19 ravaged the economy, high vaccination rates across Europe are bolstering recovery prospects and policy-makers have been under pressure to acknowledge that the worst is over.

The ECB did so by slowing the pace of its Pandemic Emergency Purchase Programme (PEPP), which has kept borrowing costs low as governments took on unprecedented amounts of debt to finance the response to the pandemic.

But with rising U.S. infection rates making the Federal Reserve hesitant to wind down its stimulus, the ECB was keen to stress it wasn’t about to close the money taps.

“The lady isn’t tapering,” ECB President Christine Lagarde told a news conference to explain the decision, using a turn of phrase reminiscent of former British Prime Minister Margaret Thatcher’s famous declaration “the lady’s not for turning.”

“What we have done today … unanimously, is to calibrate the pace of our purchases in order to deliver on our goal of favourable financing conditions. We have not discussed what comes next,” she said.

Lagarde pushed back a decision on how to wind down the €1.85-trillion PEPP to December and stressed that, even if that happens, the ECB will continue keeping credit cheap in its quest to boost inflation to its target.

“The day when PEPP is over … the job is not finished because we are still targeting 2 per cent,” Lagarde said.

With the economy now on a stronger footing, the ECB said that favourable financing conditions could be maintained with a “moderately lower pace” of asset purchases compared to the €80-billion it bought per month during the past two quarters.

It provided no numerical guidance for the three months ahead, but three sources with knowledge of the discussion said that policy-makers set a monthly target of between 60 billion and €70-billion, with flexibility to buy more or less, depending on market conditions.

Highlighting policy-makers’ caution, the bank also maintained a long-standing pledge to ramp stimulus back up if markets turn and financing conditions require it.

NOT ON THE GREEN

While Lagarde struck an optimistic tone on the labour market, she stressed that future recovery prospects still depended on the continued success of Europe’s vaccination program and the trajectory of infections across the world.

“We are not out of the woods, we are not on the green, as the golf players will appreciate,” Lagarde said.

The ECB upgraded its growth forecast for this year to 5 per cent from a previous 4.6 per cent target and raised inflation expectations. Inflation is now seen at 2.2 per cent this year, falling to 1.7 per cent next year and 1.5 per cent in 2023 – well below the ECB’s 2 per cent target.

Prices rose by 3 per cent year-on-year in August, according to preliminary estimates, a commodity-fueled pinch that is being felt by many consumers.

But Lagarde said policy-makers continued to believe that wage pressures were modest and that supply bottlenecks currently hitting materials and equipment would start to ease.

With Thursday’s decision, the ECB’s key rate remains unchanged at minus 0.5 per cent, PEPP remains on track to end next March and purchases under the older Asset Purchase Programme (APP) remain at €20-billion a month.

DECEMBER DECISION

But Lagarde skirted the big issue around the exact end of emergency support, leaving that contentious decision for December’s meeting.

The difficulty is that the bank must signal the end of PEPP, its biggest asset-purchase scheme, as the coronavirus crisis ends, while promising to maintain support via other tools because inflation is still too low.

That will require the ECB to shift its focus to the more rigid, longer-established APP, the bank’s primary stimulus tool before the pandemic.

But to make the APP fit for purpose, the ECB must increase purchase volumes and make its rules more flexible – which conservative members of the Governing Council could resist, fearing that the ECB is already acting beyond its mandate.

“I think the council is far too divided for her to start deliberating on that,” Gilles Moec, chief economist at French insurer AXA Group, said.

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