ECB Headquarters in Frankfurt, March 12, 2020 (AFP / Daniel ROLAND)
The European Central Bank (ECB) on Thursday confirmed the normalization of its anti-crisis policy without being in a hurry to raise interest rates despite the “serious” economic impact of the war in Ukraine, particularly on inflation.
At the close of the Board of Governors, at which observers were not expecting a major decision, the institution reiterated its March price stability signal and announced that net asset purchases conducted under the APP would end in the “third quarter”.
The first rate hike, held at its lowest on Thursday, is still expected to come “some time later” with no further details. This is despite a record price increase in the eurozone, which was nearly 8% over a year in March – nearly four times the 2% target set by the ECB.
“It may be early or late in the three-month quarter,” and “the exact timetable will be determined at the next meeting,” President Christine Lagarde said.
The Frankfurt institute remains the most wait-and-see of the major central banks, while the war in Ukraine gave prices a strong boost, which could have an impact over time.
Everywhere else, from Washington to London to Seoul on Thursday, interest rates began to rise to fight inflation.
But comparing the American and European economies “is like comparing apples and oranges,” Ms. Lagarde reasoned. “The euro zone is more exposed and will suffer more from the consequences of the war.”
– “Pigeons” vs. “Hawks” –
The significantly clouded economic horizon with Russia’s invasion of Ukraine makes the task of the ECB more difficult.
“The war in Ukraine is seriously affecting the eurozone economy and has greatly increased uncertainty,” Ms. Lagarde noted.
Many countries in the eurozone could experience a contraction in GDP in the coming quarters.
And a European embargo on Russian gas would have “significant effects” on the economy, the Frenchwoman notes.
New lockdowns in China like Shanghai to combat the Covid-19 outbreak are again disrupting maritime trade and increasing pressure on supply chains.
The debate in the Governing Council then pitted the “hawks” against the “doves”: the former advocated an accommodative monetary policy so as not to jeopardize the economic recovery in the face of inflation, which is beyond the ECB’s control.
But the hawks, advocates of a tougher approach slowly gaining the upper hand in the debate, see the risk of inflation entrenching over time with the risk of increased pressure for wage increases.
“Underlying inflation has exceeded 2% in recent months” but the duration of this increase is “uncertain”, Ms Lagarde noted.
– sovereign debt risk –
Observers have dissected the ECB’s vocabulary for the slightest hint of a more aggressive tone on inflation.
The euro watchdogs’ announcement was “a bit more confident” about the timing of monetary normalization and “it would now take a severe recession or a sharp fall in inflation forecasts” to prevent an end to debt buybacks, notes economist Carsten Brzeski at ING.
“The journey of ‘monetary normalization’ has begun,” Ms. Lagarde said. “It’s going as planned… and we want to keep our options open.”
But if the Frankfurt institute is hesitant, it’s because, according to Holger Schmieding, an economist at Berenberg, “it probably needs more clarity about the prospects for growth, inflation and bond yields.”
The ECB is therefore concerned about the risk of “fragmentation” within the eurozone from 19 countries with very different economies, which is reflected in the rise in government bond yields.
This is a sign that markets are preparing to be weaned from liquidity after seven years of ECB debt-buying and then to see rates rise for the first time since 2011.
If no new tool is in the pipeline, “we might do it” and “we will develop any suitable tool,” Ms. Lagarde commented.