Reference no: EM131626028

The following consists of 2 Related questions, 2A and 2B. Please answer both 2A and 2B

2A. On January 22, 2015, the European Central Bank (ECB) put out the following Press Release:

ECB announces expanded asset purchase programme:

• ECB expands purchases to include bonds issued by euro area central governments, agencies and European institutions
• Combined monthly asset purchases to amount to €60 billion
• Purchases intended to be carried out until at least September 2016
• Programme designed to fulfil price stability mandate

The Governing Council of the European Central Bank (ECB) today announced an expanded asset purchase programme. Aimed at fulfilling the ECB's price stability mandate, this programme will see the ECB add the purchase of sovereign bonds to its existing private sector asset purchase programmes in order to address the risks of a too prolonged period of low inflation.

The Governing Council took this decision in a situation in which most indicators of actual and expected inflation in the euro area had drifted towards their historical lows. As potential second-round effects on wage and price-setting threatened to adversely affect medium-term price developments, this situation required a forceful monetary policy response.

Asset purchases provide monetary stimulus to the economy in a context where key ECB interest rates are at their lower bound. They further ease monetary and financial conditions, making access to finance cheaper for firms and households. This tends to support investment and consumption, and ultimately contributes to a return of inflation rates towards 2%.

The programme will encompass the asset-backed securities purchase programme (ABSPP) and the covered bond purchase programme (CBPP3), which were both launched late last year. Combined monthly purchases will amount to €60 billion. They are intended to be carried out until at least September 2016 and in any case until the Governing Council sees a sustained adjustment in the path of inflation that is consistent with its aim of achieving inflation rates below, but close to, 2% over the medium term.

The ECB will buy bonds issued by euro area central governments, agencies and European institutions in the secondary market against central bank money, which the institutions that sold the securities can use to buy other assets and extend credit to the real economy. In both cases, this contributes to an easing of financial conditions.

Based on the ECB Press Release, please explain the following:

1A). What is the purpose of expanding the asset purchase programme, which was established in October 2014?

2A). The Press Release mentions that the "purchase programme" (note: this is a British spelling) will include "sovereign bonds", "asset-backed securities" and "covered bonds". Can you explain what are these bonds and securities? For example, what are "sovereign bonds", "asset-backed securities" and "covered bonds" etc....

3A). The Press Release also mentions that the "expanded purchase programme" will last until September 2016or until the inflation rate reaches the target of 2%. Do you know the reasons why the ECB announces the end date of the programme and the inflation rate target? (Hint: When you answer this question you should think as a long term investor)

2B. On March 10, 2016, The ECB put out the following Press Release:

ECB adds corporate sector purchase programme (CSPP) to the asset purchase programme (APP) and announces changes to APP.

• Combined monthly purchases under the APP are to increase as of 1 April 2016 to €80 billion from €60 billion.
• Investment-grade euro-denominated bonds issued by non-bank corporations established in the euro area will be included in the list of assets eligible for regular purchases under a new corporate sector purchase programme(CSPP).
• The CSPP will be added to the APP and will be included in the combined monthly purchases.
• The CSPP will further strengthen the pass-through of the Eurosystem's asset purchases to the financing conditions of the real economy.
• Purchases are to start towards the end of the second quarter of 2016.

The Governing Council of the European Central Bank (ECB) today decided to establish a new programme to purchase investment-grade euro-denominated bonds issued by non-bank corporations established in the euro area with the aim of further strengthening the pass-through of the Eurosystem's asset purchases to the financing conditions of the real economy. As a result, and in conjunction with the other non-standard measures in place, the CSPP will provide furthermonetary policy accommodationand contribute to a return of inflation rates to levels below, but close to, 2% in the medium term.

Eligibility under the Eurosystem's collateral framework - the rules that lay out which assets are acceptable as collateral for monetary policy credit operations - will be a necessary condition for determining the eligibility of assets to be purchased under the CSPP, subject to further criteria. Securities issued by credit institutions and by entities with a parent company which belongs to a banking group will not be eligible.

CSPP purchases will begin towards the end of the second quarter of 2016.

Further technical details on the CSPP will be announced in due course.

The Governing Council also decided to adjust the parameters of the public sector purchase programme (PSPP). The issuer and issue share limits for securities issued by eligible international organisations and multilateral development banks will be increased to 50%. In addition, as of April 2016 the share of such securities purchased under the PSPP will be reduced from 12% to 10% on a monthly basis. To maintain the 20% risk-sharing regime, the ECB's share of monthly PSPP purchases will be increased from 8% to 10%.

Based on the March 10, 2016 Press Release:

1B) In the January 22, 2015 Press Release (see Question 1A) what type of assets did the ECB want to purchase? What type of assets did the ECB want to purchase after March 10, 2016?

2B) Why did the ECB decide to establish a new programme to purchase investment-grade euro-denominated bonds issued by non-bank corporation?

3B) The corporate sector purchase programme (CSPP) will provide further monetary policy accommodation.  Please explain how the monetary policy accommodation works.