- Market expectations were elevated but the Governing Council did not disappoint. The comprehensive nature of the package, with the introduction of state-dependent forward guidance, take away the need to envisage additional measures in the foreseeable future
- ECB watching has been narrowed to monitoring the gap between inflation and the ECB target
- Given certain negative side effects of the current monetary mix, which are acknowledged by the Governing Council, fiscal policy, where leeway is available, is now requested to step up to the plate, so as to foster growth and speed up convergence of inflation to target
- The policy baton has been passed
The next couple of years risk being boring for ECB watchers. The package of measures decided by the Governing Council on Thursday was very comprehensive and, hopefully, takes away the need to do more anytime soon. In addition, the forward guidance was particularly strong, both in terms of interest rate policy and as far as the asset purchase program is concerned. The latter will be resumed without an end date.
Whether this degree of monetary accommodation is maintained for some or a very long time depends on how inflation evolves. The hurdle is high: the inflation outlook needs to robustly converge to the ECB’s target and this must be consistently reflected in the underlying inflation dynamics. Spikes, which are by definition short-lived don’t pass the test. Given the sluggishness of the inflation process, meeting these requirements will take time, which makes it very likely that the current policy will remain in place for a long time. The fact that bond yields, after a dip following the press release, moved higher shouldn’t be interpreted as an anticipation of monetary tightening, but is a reflection of a less negative term premium1 . This in turn would reflect that investors give some credence to the effectiveness of the package. This is indeed the key question in the coming months for markets, households, companies and indeed the ECB, because it will determine whether inflation expectations can re-anchor at a higher level. As emphasised by Mario Draghi during the press conference, these expectations didn’t become unanchored, they reanchored at too low a level compared to the ECB’s inflation aim.
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