By Francesco Canepa and Balazs Koranyi

FRANKFURT (Reuters) – Policymakers at the European Central Bank are bracing for inflation to exceed the bank’s already raised estimates, paving the way for an end to its emergency bond purchases in March, said sources involved in the discussion.

The ECB, which plans to make a decision on the future of its emergency pandemic purchasing program in December, expects inflation to return in 2022-2023 after this year’s abnormal rebound as the economy finds its way back to before the pandemic.

But conversations with eight ECB Governing Council members who asked not to be nominated showed that many, if not most, at the September 9-10 policy meeting have already felt the new forecast, which places l inflation at 2.2% this year, 1.7% next year and 1.5% in 2023, were too low.

Since then, the data has heightened fears that inflation will come close to or even exceed the ECB’s 2% inflation target next year, a potential headache as the ECB’s policy hinges on inflation below the target for the coming years.

Sources pointed to bottlenecks that lasted longer than expected, staff shortages extending beyond the hospitality sector and a constant flow of cash from private savings and official stimulus programs. – including that of the ECB.

Most sources agreed that higher inflation was on top of an already strong argument to end the PEPP, which is worth € 1.85 trillion, as expected next March, although the debate has barely started. .

Many were even open to a temporary increase in the volume of the central bank’s other bond buying program, the asset purchase program, to avoid a “cliff edge” from the end of the PEPP. .

Some have said they could live with an app running at a higher rate, say at 40 billion euros ($ 47 billion) per month compared to the current 20 billion euros, provided there is a clear end date on it.

Others on the conservative end of the spectrum even considered $ 40 billion too much, given that public debt issuance is set to drop sharply next year.

Many policymakers were also prepared to let the ECB deviate from its country quotas, defined by its capital key, when buying bonds – a potential victory for indebted governments like Italy’s which often face pressure in the financial market, conversations with the sources suggested.

But there was widespread resistance to breaking the issuer limit – a cap on the number of bonds from a single country the ECB can hold, which has helped protect the central bank from accusations that it funds governments. in cases brought before European and German courts.

The issuer limit was about to become binding in Germany and some smaller countries.

An ECB spokesperson declined to comment on this story.

All sources said it was too early to draw a definitive conclusion on the economic outlook and its political implications.

Policymakers were due to hold at least two seminars in the coming weeks, first on the ECB’s long-term lending to banks and, closer to the December meeting, on its asset purchases.

They said more evidence was needed to conclude that a higher and longer inflation “bump” would translate into the kind of lasting price hikes the bank was aiming for, especially as wage growth was growing. remained moderate.

But they feared that the ECB’s macroeconomic models, which predict the future based on the past, would be distorted by years of sluggish price growth and underestimate how the world has moved since the start of the pandemic.

The ECB said it expected supply chain bottlenecks to ease next year and the rebound in prices of some commodities to decline from the annual comparison, lowering the inflation rate after a “largely temporary” rebound.

Skeptics believe it wouldn’t take much to make this hold and some have expressed displeasure at ECB President Christine Lagarde and Chief Economist Philip Lane’s insistence on the temporary nature of the recent rise.

“We say that the rise in inflation is largely transient. Much of that means not completely and you only need a small portion of these transient factors to stay in place to close the gap between our forecast and target, ”said one of the sources.

Their concern over inflation was underscored by the US Federal Reserve, which raised its own projections on Wednesday, forecasting price growth at or above its own 2% target for years to come.

Markets expect the ECB to remove the PEPP in March, but continue to buy bonds through its asset purchase program while leaving its deposit rate at -0.5% for another three years.

(Reporting by Francesco Canepa and Balazs Koranyi; editing by Hugh Lawson)

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