2.2 European Central Bank’s monetary policy in 2021
The European Central Bank’s monetary policy remained very accommodative throughout 2021. The Governing Council redefined the ECB’s price stability objective in July to refer to a symmetric inflation target of 2% over the medium term. In December, the Governing Council decided that the pandemic emergency purchase programme (PEPP) will end in March 2022.
The main objective of the Eurosystem’s monetary policy is to maintain price stability in the euro area.
The price stability objective defined by the ECB’s Governing Council means a symmetric 2% inflation target over the medium term. This allows the value of money to remain more or less unchanged and purchasing power to remain strong.
The Eurosystem’s monetary policy also supports other EU economic policy goals wherever possible, such as sustainable economic growth and employment, provided that this does not prejudice the price stability objective.
The Eurosystem comprises the European Central Bank (ECB) and the national central banks of the euro area. As a member of the Eurosystem, the Bank of Finland participates in preparation, decision-making and implementation of the euro area’s single monetary policy. The Governor of the Bank of Finland, Olli Rehn, is a member of the Eurosystem’s highest decision-making body, the Governing Council of the ECB.
Policy rates remained unchanged, PEPP to end
The ECB’s monetary policy continued to be very accommodative in 2021.
The Governing Council kept the policy rates unchanged throughout the year. The interest rates on the main refinancing operations, on the marginal lending facility and on the deposit facility were 0.00%, 0.25% and -0.50%, respectively.
The rates had been at this level since September 2019. The Governing Council anticipates that these rates will remain until the net asset purchases are discontinued.
Net purchases under the expanded asset purchase programme (APP), which forms part of the unconventional monetary policy measures taken, remained at a monthly pace of EUR 20 billion in 2021.
A decision was made in December 2021 that the pandemic emergency purchase programme (PEPP) will be discontinued in March 2022. Following this, the APP will be increased to a monthly pace of EUR 40 billion in the second quarter and reduced to EUR 30 billion in the third quarter of 2022, with a further reduction to EUR 20 billion from October 2022.
It was also decided that reinvestments of principal payments from maturing securities purchased under the APP will still continue more or less in full after the ECB’s Governing Council begins to raise key ECB interest rates, and in any case for as long as is necessary for maintaining favourable liquidity and a monetary policy that strongly supports growth.
The Eurosystem’s balance sheet amounted to a little over EUR 8,500 billion at the end of 2021.
Uncertain growth outlook in early 2021 ensured monetary policy remained accommodative
In its January 2021 assessment, the ECB’s Governing Council concluded that the euro area’s GDP growth and near term outlook remained weak. Inflationary pressures were also still low.
Based on this, the Governing Council decided at its January meeting to maintain its accommodative monetary policy stance.
Economic outlook still weak in spring 2021
At its March 2021 monetary policy meeting, the ECB’s Governing Council announced that euro area GDP growth appeared to have slowed in the first quarter of the year as a result of the COVID-19 pandemic.
It nevertheless expected the situation to improve in the latter part of the year. Inflation was on a slight upward path due to transitory factors and rising energy prices, but, overall, inflationary pressures were still considered to be low.
ECB staff projections for euro area GDP growth were held unchanged (4.0% in 2021, 4.1% in 2022 and 2.1% in 2023), but the inflation projections were raised for 2021 and 2022.
Inflation was forecast to be 1.5% for 2021, 1.2% for 2022 and 1.4% for 2023. The ECB staff’s elevated inflation forecasts for 2021 and 2022 in relation to the forecasts made in December 2020 were mainly due to transitory factors and a rise in energy prices.
Based on these assessments, it was seen as essential to preserve favourable financing conditions during the period of the pandemic. In line with its assessment of financing conditions and the inflation outlook, the ECB’s Governing Council announced that the pace of net purchases under the PEPP should be increased significantly in the second quarter of 2021 compared with the previous quarter.
Net PEPP purchases will nevertheless remain within their agreed maximum, i.e. within an overall envelope of EUR 1,850 billion by the end of March 2022. In other respects the monetary policy stance remained unchanged.
At its April monetary policy meeting, the ECB’s Governing Council stated that the growth outlook was still overshadowed by the pandemic. GDP growth was nevertheless expected to pick up in the latter half of 2021.
Inflation had again risen slightly as a result of transitory factors and higher energy prices. Financing conditions had remained favourable.
Based on this information, the ECB’s Governing Council announced in April 2021 that it was retaining unchanged its accommodative monetary policy stance.
Pandemic subsided in summer 2021 and expectations grew of a recovery in GDP growth
In June, the ECB’s Governing Council took the view that euro area GDP growth would start to accelerate in the second half of 2021.
Inflation had risen further, spurred on by transitory factors and higher energy prices. The rise in inflation was expected to continue in the latter part of the year, before slowing at the start of 2022.
Financing conditions had remained favourable, more or less unchanged since March, despite a rise in market rates.
As GDP growth in the first half of the year proved to be better than expected, Eurosystem staff projections in June raised the growth forecasts for 2021 and the following year (4.6% for 2021, 4.7% for 2022 and 2.1% for 2023).
Inflation forecasts for 2021 and 2022 were also raised due to transitory factors and higher energy prices. According to ECB staff projections, consumer price inflation, as measured by the harmonised index of consumer prices (HICP), was expected to be 1.9% in 2021, 1.5% in 2022 and 1.4% in 2023.
Based on this information, the ECB’s Governing Council announced in June 2021 that its accommodative monetary policy stance would remain unchanged.
At the start of July, the Governing Council announced the ECB’s new monetary policy strategy following the conclusion of its strategy review. This incorporated an adjustment to the inflation target, which is derived from the price stability objective. The new target was a symmetric inflation target of 2% over the medium term.
The Governing Council also added a plan to integrate climate considerations into the other objectives of the monetary policy strategy but without prejudicing the price stability objective.
At its July monetary policy meeting, the ECB’s Governing Council asserted that the strong second quarter GDP growth in the euro area was expected to continue in the third quarter as well. Nevertheless, in the COVID-19 pandemic the new Delta variant of the virus was seen as a significant downside risk to this outlook.
Inflation had again gathered pace a little, but this was expected to be transitory. Financing conditions were also considered to have remained favourable.
On this basis the ECB’s Governing Council declared in July 2021 that it would maintain an accommodative monetary policy stance.
Stronger GDP growth projection in autumn 2021
At its September monetary policy meeting, the ECB’s Governing Council noted that euro area GDP growth had been brisk during the year.
In addition, inflation had been higher than expected due to transitory factors and the higher price of energy. Financing conditions had been favourable.
A similar outlook was also conveyed in the September 2021 ECB staff projections, which forecast GDP to be up by 5.0% in 2021, 4.6% in 2022 and 2.1% in 2023.
Euro area inflation was forecast to be 2.2 % for 2021, 1.7 % for 2022 and 1.5 % for 2023. It was again emphasised that the upward adjustment of inflation forecasts was mainly the result of transitory factors and higher energy prices.
Based on this information, the Governing Council of the ECB stated that financing conditions can be considered favourable, although net purchases under the pandemic emergency purchase programme (PEPP) would be made at a more moderate pace than in the two previous quarters.
The Governing Council also announced in September 2021 that in other respects it would keep its accommodative monetary policy stance unchanged.
At its October monetary policy meeting, the ECB’s Governing Council noted that strong GDP growth in the euro area was expected to continue, albeit at a fractionally slower rate than forecast.
Inflation had again risen slightly, but this was viewed as largely a consequence of the rise in energy prices and the fact that production constraints on the supply side were causing demand to exceed supply. Financing conditions were also considered to have remained favourable.
On this basis, the ECB’s Governing Council announced in October 2021 that it would maintain its accommodative monetary policy stance.
Year-end favourable outlook enabled decision on future step-by-step reduction in accommodative monetary policy
At its December monetary policy meeting, the ECB’s Governing Council stated that euro area GDP growth would continue to be high, though slackening slightly, in 2022.
In the pandemic, the spread of the new Omicron variant at the end of the year cast a shadow over the economic outlook. Inflation had again gathered pace, reaching 4.9% in November. This was considered to be largely a consequence of the rise in energy prices and the fact that production constraints meant that demand was exceeding supply.
Rising inflation was still seen as being transitory and would abate in 2022 when the transitory factors gradually disappeared.
Eurosystem staff projections in December showed euro area GDP growth amounting to 5.1% in 2021, 4.2% in 2022, 2.9% in 2023 and 1.6% in 2024.
The 2022 figure was lower and the 2023 figure higher than in September’s projections. The inflation estimate for all years was higher than forecast in September. The ECB staff projections showed the HICP inflation rate to be 2.6% in 2021, 3.2% in 2022, 1.8% in 2023 and 1.8% in 2024.
The ECB’s Governing Council concluded in December that progress on economic recovery and towards the medium-term inflation target permitted a step-by-step reduction in the pace of asset purchases over the coming quarters.
In the ECB’s estimation, net purchases under the pandemic emergency purchase programme (PEPP) could be made at a more moderate rate in the first three months of 2022 than in the previous quarter. The PEPP would then be terminated at the end of March 2022, as agreed.
Under the decision, reinvestments concerning assets acquired in the PEPP can be used flexibly over time, across asset classes and among jurisdictions if the pandemic still threatens to lead to market fragmentation.
The step-by-step reduction in asset purchases must be consistent with a monetary policy stance that aims for inflation to stabilise close to the symmetric 2% target over the medium term.
The ECB’s Governing Council decided to increase monthly net purchases under the APP purchase programme to EUR 40 billion in the second quarter of 2022. It was decided to reduce APP net purchases to EUR 30 billion in the third quarter of 2022. From October 2022 onwards, APP net purchases will shrink to a monthly pace of EUR 20 billion, and this will continue for as long as necessary to reinforce the accommodative impact of the policy rates.
The Governing Council of the ECB anticipates that net purchases will end shortly before key ECB interest rates start to be raised.
Accommodative monetary policy supports euro area GDP growth
The ECB’s monetary policy underpinned growth in the economy in 2021. The purpose of the accommodative monetary policy was to ensure that financing conditions were favourable in all sectors of the economy.
Accommodative monetary policy contributed to maintaining bank lending at a robust level and eased access to financing. Easier borrowing for households and businesses helped support the level of consumption and corporate investment. This then also boosted GDP growth and price pressures in the euro area.
The ECB’s accommodative monetary policy thus sought to foster the convergence of inflation towards the symmetric 2% inflation target over the medium term.
The ECB’s Governing Council considered that monetary policy should still be complemented with a targeted and growth-friendly fiscal stimulus. This will also help the economy to adjust to structural changes.
Effective implementation of the Next Generation EU (NGEU) programme and the EU’s Fit for 55 climate package will contribute to stimulating stronger, greener and more balanced growth in the euro area.
Macroprudential policy measures will be of primary importance in fostering financial stability
In line with the ECB’s new monetary policy strategy, the Governing Council will twice a year conduct an assessment of the interaction between monetary policy and financial stability.
Accommodative monetary policy will support GDP growth, which will strengthen the balance sheets of businesses and financial institutions and prevent the risk of market fragmentation. However, at the same time an accommodative monetary policy has increased medium-term risks in the real estate and financial markets, necessitating the close monitoring of these markets.
The ECB’s Governing Council considers that macroprudential policy measures should be the primary means for fostering financial stability and meeting these medium-term challenges.