By Dhara Ranasinghe and Ritvik Carvalho
LONDON, Oct 24 (Reuters) - The European Central Bank is
likely to decide the fate of its 2.3 trillion euro stimulus
scheme on Thursday in one of the ECB's most keenly anticipated
policy meetings for months.
Solid economic growth means the days of extraordinary
stimulus are numbered, although anaemic inflation supports the
case for dragging out asset purchases for as long as possible.
The balancing act facing the ECB has become a focal point
for markets trying to assess just what shape a scaling-back or
"tapering" of stimulus is likely to take. Here are the main
questions investors want answered:
1. How much will the ECB trim its asset purchases by?
Many analysts expect the ECB to announce a cut in monthly
purchases to 30 billion euros from 60 billion euros from January
for nine months, following recent source-based stories
suggesting ratesetters favour a "lower for longer" scenario.
A bigger point of contention is whether to keep the scheme
open-ended by putting a nine- or six-month time frame for the
reduced purchases or give a final end-date for the scheme, which
is currently set to expire in December.
Analysts do not rule out a 12-month extension at an even
lower pace of 20-25 billion euros a month.
2. Will the ECB change its forward guidance?
The language in the ECB's statement about policy rates
remaining low until "well past" the end of quantitative easing
is expected to stay in place.
The longer the ECB keeps monetary stimulus in place, the
further back investors are likely to push expectations for a
rate rise. Money markets no longer anticipate a rate rise in
2018 and many economists do not expect a hike until 2019.
The ECB could also reaffirm that it will reinvest the
proceeds of maturing bonds, sending a clear signal that it will
remain active in bond markets for some time.
3. Is the ECB still worried about the euro?
The single currency has declined almost 3 percent from a
more than a 2-1/2-year peak above $1.20 since the last ECB
meeting in early September, but concerns about currency strength
remain on policymakers' minds.
Market data indicates that investors still expect more gains
in the currency, with weekly CFTC positioning numbers showing
long euro positions near their highest on record while long-term
investors such as central banks and sovereign wealth funds are
still underweight the single currency.
The phrase "exchange rate" appeared 25 times during ECB
chief Mario Draghi's last press conference, the most of any
conference held by Draghi or former ECB President Jean-Claude
Trichet, according to Nomura analysis.
4. What about bond market scarcity?
A scarcity of eligible government debt for ECB stimulus
strengthens the case for tapering. The ECB is likely to be
questioned about its technical constraints although analysts say
more details on this are more likely to come in December.
One view is that the ECB could avoid hitting self-imposed
limits by scaling back purchases of corporate bonds more slowly
than those of government debt.
To make up for shortages of government bonds in much of the
bloc including Germany, the ECB has been skewing asset purchases
towards Italy and France. That helps explain why Italian bonds,
in particular, have benefited from recent talk that ECB tapering
is likely to be a drawn-out process.
5. Is the banking sector strong enough for tapering?
While macro-economic indicators may be reassuring
policymakers that they can tighten financial conditions, there
is still a large cloud hanging over the bloc's banking sector.
For that reason, investors will be listening closely to what
Draghi has to say about tackling the stockpile of bad loans in
places like Italy. The ECB faces the dilemma of making sure
banks set aside money to deal with this legacy problem but still
have enough to lend out.
Policymakers need to be sure that the private sector will be
able to provide sufficient credit to maintain the euro zone's
recovery if the central bank takes a step back.
(Reporting by Dhara Ranasinghe, Saikat Chatterjee, John Geddie
and Ritvik Carvalho; editing by John Stonestreet)
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