Today the European Central Bank gives us the results of its September meeting. It is unusual for this to be on a Wednesday and those who think that it invariably marches to a rather Germanic beat will have a wry smile at this being due to a national holiday in Germany tomorrow! The meeting would not have been affected as it is in Paris,which may make French readers muse about their on-going and perhaps declining influence on the ECB. However it is not my purpose today to suggest that the ECB will act today although as you will see below there are certainly arguments for this. Rather it is to peer under the bonnet of European monetary policy and examine the state of play.
This is the modus operandi still of the ECB and its objective is as follows.
The primary objective of the ECB’s monetary policy is to maintain price stability. The ECB aims at inflation rates of below, but close to, 2% over the medium term.
Of course many central banks claim to target inflation but fewer actually act as if they believe it! However the ECB’s past actions indicate that it is in the latter camp. At the end of his term the last President Jean Claude Trichet went out of his way to tell us this.
We were called on by all the democracies of Europe to deliver price stability and, in particular, of course by the 17 democracies that asked us to issue the currency in their 17 countries. We have delivered price stability over the first 12-13 years of the euro! Impeccably! I would like very much to hear some congratulations for this institution, which has delivered price stability in Germany over almost 13 years at approximately 1.55%.
Interesting is it not that inflation in Germany gets mentioned! On another occasion he boasted that overall Euro area inflation under the ECB had averaged 1.97% so exactly on target. It did not seem to bother him that this had coincided with recession for many and economic depression for some.
Accordingly the latest inflation numbers provide plenty of food for thought. From Eurostat on Monday.
Euro area annual inflation is expected to be 1.1% in September 2013, down from 1.3% in August
So not only below target but falling too. In addition Greece actually has a negative rate of annual inflation (-1%), and Italy as I discussed only on Tuesday has a falling annual rate albeit one about to be boosted by the rise in VAT to 22%. Those who are regular readers of this blog know my fears about disinflation in Spain too which were backed up last week.
According to the flash estimate issued by the INE, the annual inflation of the CPI in September 2013 was expected to be 0.3%. ….., if confirmed, would imply a decrease of more than one point of its annual rate,
The next question is of course the expected path for inflation which the ECB told us in August was this.
This assessment is also reflected in the September 2013 ECB staff macroeconomic projections for the euro area, which foresee annual HICP inflation at 1.5% in 2013 and 1.3% in 2014………underlying price pressures are expected to remain subdued,
So as it is expected to remain below target there is scope here for further easing by the ECB. Indeed since its dip below 1.28 against the US Dollar in early July the currency has been a disinflationary influence as it has risen to above 1.35. Accordingly the easing bias gets another nudge.
As I have observed before I have a wry smile at the concept of price stability being defined as 2% inflation rather than zero! Is there not a military dictum that the best place to hide something is in plain sight?
Also in an 17 country system there is plenty of scope for variation and the Netherlands with 2.8% inflation and Estonia with 3.6% are currently demonstrating that.
There is no target for this for which members of the ECB may go down on their knees each evening and thank god for! However there is certainly an unemployment problem.
The euro area (EA17) seasonally-adjusted unemployment rate was 12.0% in August 2013……Compared with August 2012, unemployment rose by 895 000 in the euro area, (and is now 19.178 million).
Backing up the issue of unemployment is this report today from El Mundo in Spain.
Unemployment goes up and in September increased by 25,572 people
Although Prime Minister Rajoy who leaked the news whilst on a trip to Japan presented it thus.
But it’s the best September employment data for many years in our country
Many might consider that to be a sign of Spain’s problems! I note that the replies in the newspaper point out that a rise is still a rise and also point out that when unemployment fell in July they were told a different story.
Accordingly just looking at this indicator one could easily argue that there is scope for an easing of monetary policy in the Euro area. Indeed there would not be a shortage of people arguing that it should happen.
What is the ECB actually doing?
Open Mouth Operations
If we look at the detail of this we see that it really is an Emperor with no clothes.
Looking ahead, our monetary policy stance will remain accommodative for as long as necessary, in line with the forward guidance provided in July. The Governing Council confirms that it expects the key ECB interest rates to remain at present or lower levels for an extended period of time.
After all exactly who would expect any difference in the current economic situation in the Euro area?
Balance sheet issues
The ECB trumpeted the rise in its balance sheet which it most achieved through its Long-Term Repo Operations which amounted to just over one trillion Euros. However week by week these are being repaid as demonstrated below.
Accordingly, on 2 October 2013 EUR 1,535.00 million will be repaid in the tender 20110149 by 4 counterparties and EUR 1,622.00 million in the tender 20120034 by 5 counterparties.
Thus the balance sheet of the ECB is shrinking week by week and it has reduced from just over 3 trillion Euros to some 2.34 trillion Euros. Accordingly the stimulus from this has been reduced. As a technical matter you can argue that this is a success if you believe that the economy is recovering as unlike the UK which yesterday extended its QE (Quantitative Easing) policy out to 2068 the LTROs are proving much more flexible. The catch of course is that you have to believe that the Euro area economy is on course for a sustained recovery!
Outright Monetary Transactions (OMTs)
Whilst OMTs have never been used and there is some argument as to whether they would in fact be legal it has turned out to be an example of what have been called Jedi Mind Tricks! After all their promised deployment combined with some “whatever it takes” statements about the Euro did contribute to an improvement in the bond markets of the peripheral nations. All that is needed next is for an improvement in the actual economies…
Actually I fear for what would happen if OMTs were ever deployed on the theme of the saying it is better to travel than to arrive but so far they have not cost one single Euro.
If we look forwards it is clear that at best the Euro area looks set for slow growth in 2014. At the August press conference the ECB downgraded its expectations slightly to 1% growth which is not much of a rebound from the recession. Added to this comes downbeat news from the Central Bank of Ireland which has just trimmed its forecast for economic growth in Ireland for both this year and next.
Thus the likely next move for the ECB is another easing of policy. As an interest-rate cut would take the deposit rate negative there are dangers so another LTRO is appearing on the horizon. Probably not today because I expect the ECB to spend its time telling singing this.
Things can only get better
However there was the no-taper announcement by the US Federal Reserve not so long ago which served as a reminder that in the end economics do over-rule spin.
Also as I review ECB monetary policy it has in its own terms been a success. The catch is that it has turned out to be an example of this from the area of medecine
The operation was a success but the patient died