Economists see ECB cornered into new stimulus broadside

Mario Draghi, President of the European Central Bank, speaks during a press conference on Eurozone monetary policy in Frankfurt July 25, 2019. — AFP pic
Mario Draghi, President of the European Central Bank, speaks during a press conference on Eurozone monetary policy in Frankfurt July 25, 2019. — AFP pic

FRANKFURT, Sept 10 — The European Central Bank is set to unveil fresh monetary easing at a meeting Thursday, analysts agree, under pressure from markets to deliver support to a flagging eurozone economy.

It could be a last major move by ECB chief Mario Draghi before handing the reins to outgoing International Monetary Fund chairwoman Christine Lagarde on October 31.

The single currency is not as fragile as when Draghi promised “whatever it takes” to save it in 2012 — peaking in a €2.6-trillion (RM12 trillion) bond-buying scheme from 2015-18 and negative rates on banks’ deposits in Frankfurt.

But central bankers have for years failed to hit their inflation target of just below 2.0 per cent, despite unprecedented interventions.

And now growth is slowing as the eurozone confronts US-led trade wars, weakness in emerging markets and the risk of a no-deal Brexit.

In the second quarter, economic activity in the bloc expanded by just 0.2 per cent compared with January-March, while annual inflation fell to 1.0 per cent in July. Its leading economy, Germany, is forecast to slide into recession in the third quarter. 

Policymakers’ insistence that their goal still holds — and Draghi’s June declaration that the ECB could even aim to overshoot it, compensating for years of below-target price growth — have prompted high expectations for September action on financial markets.

“If the ECB were to disappoint in September, it would need to do more later, with lower chances of success,” said Pictet Wealth Management strategist Frederik Ducrozet.

He pointed especially to the risk of markets’ expectations for future inflation becoming “de-anchored” from the central bank’s aim.

The resultant bets on lower future inflation could turn into self-fulfilling prophecies.

Ducrozet suggested Draghi could announce €600 billion (US$660 billion) worth of new bond purchases, as well as a cut in the deposit rate banks pay to park cash with the ECB, from -0.4 to -0.5 per cent.

But “dissensions within the governing council could lead to a sub-optimal decision” that leaves asset purchases for another day, he added.

Council divided?

Governors from the weightiest eurozone nations, including France, Germany and the Netherlands, are sceptical about new bond-buying.

“Is it necessary to restart purchases immediately? That’s a question we’ll have to discuss,” Bank of France head Francois Villeroy de Galhau said last week.

Villeroy is normally seen as one of the council’s “doves”, more favourable to monetary easing than so-called “hawks”, who mainly hail from northern and German-speaking Europe.

The German and Dutch central bank chiefs have also spoken up in recent weeks.

And ECB vice-president Luis de Guindos insisted in late August that the institution is “data-dependent”.

“Indications from market expectations cannot replace our policy judgement,” de Guindos said.

For his part, Draghi has stoked confidence in a policy move at public appearances over the summer.

In July he reiterated that governors were weighing the “possibility of actions in the future, if there is no improvement” in economic conditions.

New ECB staff growth and inflation forecasts, expected to be lower than in June, will provide fodder for the doves’ arguments at this week’s meeting.

The June outlook already trimmed predictions for both measures, with prices expected to grow just 1.6 per cent in 2021 — far short of the target.

Lower for longer

Whatever the decision, policymakers will tweak their “forward guidance” on future policy to set markets’ expectations for how long low interest rates will last.

If the ECB launches asset purchases, it will likely tie any rate hike to their coming to an end.

That could leave Lagarde with room only to ease further in her first year or more of taking office.

To quiet inevitable grumbles from banks about low rates, many analysts expect the ECB to introduce a “tiering” system exempting some deposits from the charges, which amount to more than seven billion euros per year.

“The central bank will have to strike a balance between conflicting goals: To provide sizable relief to banks, to leave enough liquidity to keep monetary conditions easy and to avoid unwarranted tightening,” said economist Marco Valli of UniCredit. — AFP               

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