Reducing the size of our balance sheet is warranted for three reasons: first, to regain valuable policy space in an environment in which the current large volume of excess liquidity is not needed for steering short-term market interest rates; second, to mitigate the negative side effects associated with a large central bank balance sheet and footprint in financial markets; and third, to withdraw policy accommodation to support our intended monetary policy stance. I will then explain the effects of the reduction of our balance sheet on broader financial markets. While QT will not simply be a reversal of QE, investors anticipating balance sheet run-off are likely to have gradually reversed some of the risk premium compression induced by our asset purchases, thereby contributing to the timely return of inflation to our 2% target. Why quantitative tightening? Let me start by discussing the rationale for QT in more detail. Regaining policy space when excess liquidity is higher than needed The first reason relates to the ECB’s operational framework. After the start of the APP in 2015, we de facto moved from a corridor system for steering short-term market rates towards a floor system, as the large increase in excess liquidity caused money market rates  to converge to the rate applied by the Eurosystem to its deposit facility (the deposit facility rate, or DFR; Slide 2). [4] In the ongoing review of our operational framework, we are analysing whether in the future we will operate under a floor or a corridor system.

Incoming data since our meeting in early March confirm that the cyclical recovery of the euro area economy is becoming increasingly solid and that downside risks have further diminished. At the same time, underlying inflation pressures continue to remain subdued and have yet to show a convincing upward trend. Moreover, the ongoing volatility in headline inflation underlines the need to look through transient developments in HICP inflation, which have no implication for the medium-term outlook for price stability. A very substantial degree of monetary accommodation is still needed for underlying inflation pressures to build up and support headline inflation in the medium term. If the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, we stand ready to increase our asset purchase programme in terms of size and/or duration. Let me now explain our assessment in greater detail, starting with the economic analysis. Euro area real GDP increased by 0.5%, quarter on quarter, in the fourth quarter of 2016, following a growth rate of 0.4% in the third quarter. Incoming data, notably survey results, bolster our confidence that the ongoing economic expansion will continue to firm and broaden. The passthrough of our monetary policy measures is supporting domestic demand and facilitates the ongoing deleveraging process. The recovery in investment continues to benefit from very favourable financing conditions and improvements in corporate profitability. Employment gains, which are also benefiting from past labour market reforms, are supporting real disposable income and private consumption.