ECB prepares to fire anti-deflation gun next year


FRANKFURT: The European Central Bank (ECB) on Thursday (Friday in Manila) announced it was ready to act early next year should the euro area show signs of tipping into deflation and kept its key interest rates at record lows unchanged.

At its final policy meeting of the year, the ECB held its main “refinancing” rate steady at 0.05 percent, and its two other rates—the marginal lending and the deposit rates—at 0.30 percent and minus 0.20 percent, respectively.

But the ECB’s decision to “substantially” downgrade its latest inflation and growth forecasts for the next three years suggested there is room for additional monetary easing.

ECB president Mario Draghi said the bank had stepped up preparations to undertake additional stimulus measures, such as central banks in Britain, Japan and the United States have done.

According to the ECB’s new forecasts, inflation in the single currency area should average 0.5 percent this year and pick up only gradually to 1.3 percent in 2016, a long way off the central bank’s target of around 2.0 percent.

At the same time, area-wide economic growth would amount to a paltry 0.8 percent in 2014 and expand to a lacklustre 1.5 percent in 2016.

Low inflation or even falling prices may sound good for the consumer, but not from a central bank’s point of view. They can trigger a vicious spiral where businesses and households delay purchases, throttling demand and causing companies to lay off workers.

Draghi insisted that the raft of different measures so far “will further ease the monetary policy stance more broadly” in the coming months.

No need for unanimity
The ECB would then “early next year reassess the monetary stimulus achieved, the expansion of the balance sheet and the outlook for price developments,” Draghi told a news conference in Frankfurt.

“Should it become necessary to further address risks of too prolonged a period of low inflation, the governing council remains unanimous in its commitment to using additional unconventional instruments within its mandate. This would imply altering early next year the size, pace and composition of our measures.”

The ECB has already cut its interest rates to new all-time lows, made unprecedented amounts of cheap loans available to banks via its LTRO and TLTRO programs, and embarked on asset purchase programs (ABSs and covered bonds) to pump liquidity into the financial system.

But it has also hinted at more radical action in the form of quantitative easing (QE), a policy used by other central banks to stimulate their sluggish economies.

QE is the large-scale purchase of government bonds and such a policy has many critics in Europe, not least the German central bank or Bundesbank, because it is felt that it takes the ECB outside its remit and is effectively a license to print money to get governments out of debt.

Draghi argued that any decision to launch QE would not need to be unanimous on the ECB council.

“We don’t need unanimity. It’s an important monetary policy measure. It can be designed to have consensus,” Draghi said, adding that QE could take different forms, not simply sovereign bonds.

QE on its way?
For some ECB watchers, Draghi’s comments sent a clear signal that QE was on its way.

“We feel it confirms our prediction that the ECB will decide on a broad program of sovereign bond purchases at one of the first three meetings of next year,” said Commerzbank economist Joerg Kraemer.

Berenberg Bank economist Christian Schulz predicted that the ECB would “announce more stimulus on January 22 or March 5.”

Nevertheless, “what exactly the ECB will do remains the open question,” Schulz said.

“It is important to note that the sovereign bond purchase program as a stand-alone is unlikely to have the dimensions of the US, British, or let alone Japanese programs,” he said.

Tom Rogers at EY Eurozone Forecast was even more skeptical.

“We are less convinced—with bond yields so low it’s hard to see what [a QE program]would achieve with respect to fundamental economic conditions.

“We think the ECB will collectively hold its nerve and accentuate the positives when it meets again in six weeks’ time, such that the political difficulties associated with sovereign bond purchases do not have to be dealt with—for the time being at least,” Rogers concluded.

European shares fell after the ECB announcement appeared to disappoint markets eager for stimulus to revive the stalling eurozone economy.



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