Tomorrow the Governing Council of the European Central Bank meets and at 12.45 pm (interest-rates) and 1:30pm (extraordinary measures) will let us know its latest policy moves. In the holiday season on December 30th I pointed out that the ECB would be spending the break considering what to do next and 2014 has opened along the lines of these lyrics by Glenn Frey.
The heat is on, on the street
Inside your head, on every beat
And the beat’s so loud, deep inside
The pressure’s high, just to stay alive
‘Cause the heat is on.
This morning the message was reinforced by the unemployment new from the increasingly troubled Italy.
In November 2013 the unemployment rate was 12.7% (+0.2 percentage points over October).
A bit like the scoring rate in a one-day cricket match the Italian unemployment rate has risen inexorably from the 11.3% of November 2012 to the 12.7% of this year. The youth (15-24) unemployment rate has now risen to 41.6% from Octobers’s 41.4% and is 4% higher than a year before.
This grim news is reinforced by the employment numbers which should be of more significance to the ECB as they have proven to be something of an economic leading indicator at times in the credit crunch. Via google translate.
The employment rate , at 55.4 % , decreased by 0.1 percentage points in economic terms and by 1.0 points compared to twelve months earlier.
Some 55,000 fewer people were employed over the month and 448,000 fewer than a year before. So the ECB will be considering both a record unemployment rate since it began to be recorded 37 years ago or a doubling since 2007 as well as falling employment in Italy.
The inflation issue
This is something which unlike some central banks the ECB does take seriously so let us remind ourselves of its objective.
The Governing Council has also clarified that, in the pursuit of price stability, it aims to maintain inflation rates below, but close to, 2% over the medium term.
So far its battles on this front have been with inflation being in danger of over-shooting its target but it does claim to treat its doppelganger equally.
By referring to “an increase in the HICP of below 2%” the definition makes clear that not only inflation above 2% but also deflation (i.e. price level declines) is inconsistent with price stability.
The latest data
The Euro area consumer price index was updated only yesterday.
Euro area annual inflation is expected to be 0.8% in December 2013, down from 0.9% in November.
So if we are truly to get a symmetric response then the ECB should respond with the same enthusiasm that it woud reply to an inflation rate of 3.2%. Also in an example of being hoist by your own petard the core inflation rate which central bankers often like to trumpet fell to an annual rate of 0.7% in December.
If we look further down the inflation chain then the prospects look set for more of the same.
In November 2013, compared with October 2013, industrial producer prices fell by 0.1% in both the euro area (EA17) and the EU28
In November 2013, compared with November 2012, industrial producer prices decreased by 1.2% in the euro area and by 1.0% in the EU28
As you can see producer prices are exhibiting outright disinflation as they are falling on both a monthly and an annual basis. So weak current consumer inflation is likely to come under downwards pressure over the next few months from this source.
If we look wider for guidance then we see that the oil price has begun 2014 by weakening slightly to around US $107/8 per barrel and commodity prices seem to be in the downtrend which began a year ago. Accordingly there is little or no sign of inflationary pressure from these sources to be seen right now.
For those who expect Germanic resistance to all of this well actually the inflation numbers there are weak too right now. Indeed producer price inflation was negative there too on both a monthly basis (-0.1%) and an annual basis (-0.7%) in November and the annual figure looks to be trending downwards.
What about output and growth?
Having nudged its way out of overall recession the Euro area will be hoping for growth in 2014 but it starts with only a weak push from the end of 2013.
At a three-month high of 52.1 in December, up from 51.7 in November the final Markit Eurozone PMI® Composite Output Index rose to its second highest level in the past two and a half years.
There has been a debate recently over whether one should regard 50 as this series for unchanged or a range of 49-51 or 48-52 which might be why the recovery is called “modest and fragile overall”. The output effect is estimated below.
consistent with a mere 0.2% expansion of GDP during the final quarter
Although it was optimistic for prospects for the beginning of 2014.
the region as a whole looks set for a strengthening recovery in 2014
Another issue is the economic divergence in the Euro area where the Germanic locomotive has been joined by Ireland and Spain but seems to be going in the opposite direction to both Italy and France. Some care is needed with Ireland as the PMI series there sometimes disconnects with industrial production completely.
Existing monetary policy
This is a bit all over the place at the moment. The easing theme comes from the interest-rate cut made in November which reduced the official rate to 0.25%. Of course the catch is how much of this was actually passed on in the countries which most needed it. On that road it looks more of a public-relations exercise than a real policy move frankly.
This has been joined by a further fall in peripheral government bond yields. Leading this particular pack right now is Spain which has seen its ten-year yield drop to 3.78% as I type this. Actually let me widen this to the whole Iberian peninsula as Portugal has seen its equivalent bond drop to 5.25%. So some of the pressure on budgets in these nations will be eased a little as debt costs drop. However the economic impact of falling bond yields has tended to disappoint if the record of Quantitative Easing in other countries is any guide.
Here there are two associated problems for the ECB. Firstly the amount of bank lending to businesses in the Euro area continues to decline as November saw a 3.9% fall on a year before. Secondly the balance sheet of the ECB itself has continued to shrink and whilst the holiday brake increased the numbers 2013 ended on a weak note.
Accordingly, on 23 December 2013 EUR 4050.00 million will be repaid in the tender 20110149 by 6 counterparties and EUR 16675.00 million in the tender 20120034 by 11 counterparties
Actually much of this is being caused by the ECB’s own financial regulation section and its asset quality review.
If the ECB was a pure inflation targeting central bank then we could expect further easing soon. Actually we know that it does often operate in that manner to inflation over-shooting so we await its response to an under-shoot. Also we note that it does have secondary objectives too.
Without prejudice to the objective of price stability”, the Eurosystem shall also “support the general economic policies in the Union with a view to contributing to the achievement of the objectives of the Union”. These include inter alia “full employment” and “balanced economic growth”
I would suggest that today’s news release means that it is a very long way from full employment.
The euro area (EA17) seasonally-adjusted unemployment rate3 was 12.1% in November 2013, stable since April (up from 11.8% a year ago).
So easing is on the cards here too. Except that the ECB has very few tools for dealing with the economic divergence that is currently prevalent in the Euro area. Except perhaps for its head Mario Draghi calling the various political leaders on his speed-dial and telling them to do something for once.
Do all roads then lead to Rome? Perhaps not tomorrow as Mario Draghi only recently told us this.
At the moment we see no need for immediate action.
Perhaps they can also cling to the retail sales numbers which showed a monthly rise of 1.4% in November according to Eurostat. But nonetheless I expect there to be suggestions of more easing expressed at the Governing Council with them however being a minority this time round.
The other problem is what to actually do? With the bond yield falls that are already happening then Quantitative Easing to further reduce them seems rather pointless. Perhaps they will copy the Funding for Lending Scheme of the Bank of England badging it for business lending and being “disappointed” if instead it helps the housing market. this would of course be another implicit subsidy for the Euro’s area banks….