The ECB’s anti-fragmentation tool: just a paper tiger?

In Short

It is again testing time for the ECB. The sudden swing from low inflation at the outset of 2021 to unprecedentedly strong price dynamics - 8.9% yoy in July - has put the ECB under pressure to act.
Focal Point

Highlights:

  • Recently the ECB presented its tool to prevent fragmentation in financing conditions. Under the Transmission Protection Instrument (TPI) it can potentially buy unlimitedly sovereign (and eventually private) 1Y to 10Y debt with pari passu treatment.
  • Eligibility formally requires compliance with the EU fiscal framework, no severe macroeconomic imbalances, fiscal sustainability and sticking to EC recommendations. Presently Italy, Cyprus, Greece do not fulfil these criteria. However, the final decision is fully in the hands of the Governing Council (GC) so that these criteria are only one input for the final decision.
  • We think that the GC remained vague and indefinite to protect itself against lawsuits. Also, it was not revealed which indicators will be used to detect fragmentation. Uncertainty surrounding the TPI remains huge.
  • Markets will in the end need to test whether the TPI is more than a paper tiger.
     

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Focal Point I The ECB’s anti-fragmentation tool: just a paper tiger?
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