The European Central Bank could signal greater optimism for the eurozone at a meeting Thursday, but will remain tight-lipped about plans for winding down its massive support to the economy, analysts predict.
With a transatlantic trade war looming and a populist surge in Italy’s Sunday elections that shadowed the major eurozone economy with uncertainty, ECB President Mario Draghi is unlikely to rock the boat with talk of higher interest rates or cuts to its ‘quantitative easing’ bond-buying programme.
Observers see the ECB on the way out of its mass bond-buying scheme, after it decided to halve purchases of government and corporate debt to some 30 billion euros ($37 billion) per month from January this year.
Combined with historic low interest rates, bond-buying was designed to stoke economic growth in the eurozone by pumping cash through the financial system, helping boost inflation to the ECB’s target of just below 2.0 percent – seen as most favourable for long-term growth.
But while GDP expansion in the 19-nation single currency area surged to 2.5 percent last year, price growth has not picked up in step.
In December, ECB forecasts called for inflation to hit 1.7 percent by 2020 – still slightly short of its goal.
Indicators like business confidence, unemployment and credit growth ‘have been consistent with the ECB’s positive assessment’ for future expansion of 2.3 percent this year and 1.9 percent in 2019, economist Frederik Ducrozet of Pictet bank noted.
Nevertheless, ‘notwithstanding the ECB’s rising confidence, the staff projections for inflation are likely to remain stable in March,’ Ducrozet added.
Boardroom battle
A stable set of forecasts will not quell discord on the ECB’s 25-strong governing council, made up of the executive board and governors from the 19 member states’ central banks.
Minutes from January’s meeting showed policymakers who favour a faster dismantling of bond-buying in light of stronger growth are increasingly vocal.
They were boosted last month when executive board member Benoit Coeure judged that ‘in future, the eurosystem (of the ECB plus the national central banks) can retreat as a buyer’ without unravelling easier financing conditions.
‘The end of QE is getting closer. The risk of deflation is clearly behind us and the only question is how to moderate and implement this exit,’ analyst Carsten Brzeski of ING Diba bank said.
But the so-called ‘hawks’ remain outvoted by ‘doves’: governors who think the ECB should keep fuelling the recovery until it is certain of reaching its inflation goal.
Compromise between the two sides to achieve a unanimous decision could produce ‘another cautious and very subtle step towards the QE exit,’ Brzeski predicted.
The ECB may not risk removing language that promises more bond-buying if the economy takes a turn for the worse from its ‘forward guidance’ policy statement.
Instead, it could stress its ability to respond to shocks with a range of different tools.
Italian conundrum
A slump in global stock markets in recent weeks ‘should not have impacted the ECB’s assessment’ of the economy, Brzeski judged, noting it had a ‘small impact’ on confidence in the eurozone.
And just last week, President Donald Trump’s vow to slap tariffs on steel and aluminium imports into the United States threatens a tit-for-tat escalation with major trade partners like the European Union.
Taken to extremes, a border tax duel could threaten growth and undermine inflation.
Meanwhile, Sunday’s elections in Italy produced an unclear result that will make forming a government for the eurozone’s third-largest economy difficult, with the parties that made the biggest gains promising lower taxes and higher social benefits.
That makes it less likely they will heed Draghi’s longstanding call on all euro countries to launch structural reforms, build fiscal buffers or reduce debt levels while the sun shines.
The Italian ECB chief may also find himself forced to once again defend his job Thursday, if journalists confront him with right-wing League party leader Matteo Salvini’s Monday declaration that ‘facts, good sense and the real economy’ mean ‘the common currency system is bound to come to an end’.
‘The euro is irrevocable,’ Draghi insisted last year in a testy exchange with an Italian member of the European Parliament on a similar line of questioning.