ECB stays the course - Rabobank

Research Team at Rabobank notes that the ECB stays the course as expected, pointing at absence of “convincing trend in underlying inflation” while Draghi mentions four criteria against which it will judge future inflation developments.

Key Quotes

“The ECB policy statement and press conference provided little new information regarding the monetary policy stance. The market reaction to the press conference was pretty much non-existent either.”

“The only tangible news was the publication of further details regarding purchases of assets with yields below the deposit facility rate (DFR). Here it has been decided that purchases under the DFR will only be made under the PSPP. Moreover, priority will be given to purchases at yields above the DFR. In other words, Eurosystem national central banks are expected to show some restraint in such purchases, although this clearly does not rule out tokenistic purchases near-term, as our colleagues from the Rates Strategy team have put forward.”

“In his comment on the Governing Council decision and assessment of the policy stance, Mr. Draghi pointed at stronger survey data, the expectation of slightly stronger growth in 2016Q4 and a firming expansion thereafter. The ECB President also mentioned signs of a “somewhat stronger global recovery.“ The Council remains pleased with, its past decisions, the impact of its measures and does not foresee any difficulties in the implementation of its APP. All hunky dory, full stop.”

“That said, the ECB still sees “no signs of a convincing upward trend in underlying inflation”, despite recent upside surprises in headline inflation, the implication of this being that a “substantial degree of policy accommodation is needed to ensure a return to sustained inflation rates without undue delay.”

“Four conditions

As expected, the ECB president argued that the ECB will look through transitory developments in inflation and instead will focus in the “coming months” on judging “whether higher headline inflation translates into higher underlying inflation […]”. To that end, Draghi provided a bit more clarity on how it would judge this process:

1. The “medium term horizon is the relevant horizon.”; this tallies with our view that the 2019 staff projection for inflation is a key figure to watch in the future

2. Second, there has to be a durable improvement in inflation, so it “cannot be transient.”

3. Third, the inflation has to be of a “self-sustained” nature, meaning that inflationary pressure must remain even when monetary policy support will be removed. This tallies with our own view that we should not only see an improvement in core inflation, but also an improvement in underlying wage developments (although the ECB president steered clear from making a strong call for higher wage growth as he warned that productivity growth matters as well.)

4. Fourth, Mr. Draghi underscored that the inflation objective is defined for the Eurozone as a whole. The ECB won’t consider this condition to be fulfilled if inflation has met its target in a single member state or a group of member states rather than in the Eurozone as a whole. In response to a question, the ECB president also noted that he does not foresee “unmanageable” divergence of inflation rates in the euro area. Our interpretation here is that the ECB would thus accept the possibility of inflation overshooting in some member states (which of course is almost unavoidable if there is a certain distribution around the mean).”  

“Altogether press conference lived up to our expectations and we see no reason to change our view that, in the upcoming months, the ECB is likely to stand squarely behind the decisions taken last December.”