Nuanced Changes

ECB's Hawkish Hints Are Baby Steps

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Playing hardball. Picture source: Reuters.

With Mario Draghi, it’s always about linguistic nuances. Investors and economists around the world on Thursday were trying to discern the subtle differences in the European Central Bank president’s announcement to determine whether the continent’s ultra-loose monetary policy will come to an end any time soon. Politicians in Germany, where the outrage over current measures is the loudest, will likely have listened in very closely.

But for many German officials, Mr. Draghi’s latest announcement will be too little too late. The ECB president delivered a mixed bag of news, with Mr. Draghi dropping a by-now famous pledge to cut interest rates further if necessary. Interest rates are left unchanged for the time being, but many economists interpreted the move as a signal for future rate adjustments.

“The ECB has carefully introduced the turnaround in monetary policy, even if just with words,” said Marcel Fratzscher, a former senior manager at the European Central Bank and currently president of the economic think tank DIW Berlin.

But the central bank at the same time declined to rein in its extensive asset purchase scheme, a move many German officials had hoped for.

The so-called quantitative easing program, under which the ECB buys monthly government bonds worth €60 billion until at least the end of the year, draws the particular ire of German politicians. They accuse QE of eroding the assets of German savers and say that the ECB’s buying spree puts little pressure on poorer euro zone members to implement reforms aimed at making their economies more efficient.

The two German members of the central bank, executive board member Sabine Lautenschläger and German Bundesbank president Jens Weidmann,  have both urged the ECB’s governing council to implement gradual changes to its monetary policy.

“The low-interest policy of the ECB is not sustainable, which is why an exit strategy needs to be sounded out urgently.”

Dennis Snower, President of the Kiel Institute for the World Economy

But asked about whether the council talked about announcing a reduction to the asset program at its next rate decision in September, Mr. Draghi replied: “That was not discussed,” shutting the door on hopes for a turnaround before 2018.

“I have been pleading for a long time for the ECB to start tightening the reins soon,” Jörg Krämer, chief economist at Commerzbank, wrote in a note, adding that the central bank attached too much importance to short-term inflation forecasts.

The ECB on Thursday cut inflation forecasts, which are key to rate decisions. Central banks target inflation rates of 2 percent and the Frankfurt-based bank on Thursday said it now saw inflation at just 1.5 percent this year, down from a previous estimate for 1.7 percent.

But during his speech, Mr. Draghi also said the language about potentially lowering interest rates had been removed because risks for ultra-low inflation had subsided. “Nothing substantial has happened to inflation except the price of oil and the price of food … underlying inflation has remained the same year to year,” he said, which was widely interpreted as a hawkish hint and gave rise to expectations for rate changes in September.

“The low-interest policy of the ECB is not sustainable, which is why an exit strategy needs to be sounded out urgently,” said Dennis Snower, an economist and president of the Kiel Institute for the World Economy.

Critics pointed to the latest European Union statistics, which saw the euro zone economy grow at its fastest rate in two years, according to data by statistics agency Eurostat on Thursday. Eurostat said the 19-country euro zone expanded by 0.6 percent quarter-on-quarter and by 1.9 percent year-on-year.

“Given the significant recovery in the euro zone in recent years, getting monetary policy out of crisis mode is long overdue,” said Volker Wieland, a German economist.

Some German analysts were less diplomatic. “It does not appear healthy when the ECB is guiding the markets like a puppet master,” Christoph Kutt, an expert on the bond and interest market at DZ Bank, wrote in a note.

Economists fear a fallout from the central bank’s loose policies that could present long-term hardship for more than just German savers. Some analysts said that the cheap money prompted investors to take more risks, which ultimately outweighed the dangers of a monetary tightening. That in turn pushed up asset prices across the continent, with real estate prices rising across the board in all euro zone member countries.

“An end to easy money is urgently needed to avoid the risk of new property price bubbles in ample time,” wrote Commerzbank analyst Krämer.

Jan Mallien covers monetary policy for Handelsblatt out of Frankfurt. Tina Bellon is an editor with Handelsblatt Global based in New York. To contact the authors:

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