By Johanna Treeck
FRANKFURT (MNI) – The European Central Bank will keep a steady hand
on interest rates Thursday but President Jean-Claude Trichet is likely
to signal further monetary policy tightening during his press
conference, perhaps as early as June.
While the exact timing of the next rate hike is a close call,
latest inflation data, hawkish comments from Governing Council members
and an increasingly hard ECB line on the debt crisis suggest that the
central bank may indeed raise its key financing rate to 1.5% as early as
June.
Eurozone consumer price inflation hit a 30-month high of 2.8% y/y
in April, significantly exceeding the ECB’s price stability target of
close to but below 2%. And pipeline pressures continue to mount: March’s
Eurozone PMI showed a near-record increase in manufacturers’ selling
prices while oil prices hit near-three-year highs in the past weeks.
The data point to a significant upward revision in June of the ECB
staff’s forecasts for 2011 inflation from the current 2.3% midpoint.
Even before the latest unexpectedly strong inflation data, recently
retired Bundesbank chief Axel Weber said the forecast for 2011 would
likely be raised to at least 2.5%.
The Governing Council reiterates at every opportunity that it is
resolved to keep inflation expectations well anchored and second round
effects at bay. The signal for markets of hiking rates while unveiling
new, higher inflation projections would arguably be stronger than
holding off on a rate hike until July, especially with headline
inflation on a sharp uptrend.
True, a growing number of economic indicators point to a decline
in confidence and a slowdown of the Eurozone’s recovery. That
expectations of faster and more aggressive tightening and the additional
euro appreciation that a June hike would likely spur could undermine
confidence and economic activity even further. This could conceivably
argue in favor of waiting a month.
But even at weaker levels, business surveys are still consistent
with healthy GDP growth on an aggregate Eurozone basis and point to an
upward revision of ECB staff forecasts for 2011 GDP. In fact, the latest
PMIs rebounded in April after dipping from a near-11 year high in
February, showing that the recovery is still steaming along.
Whether the ECB hikes rates in June or July will of course have
little impact on real economic activity. It is all about the signaling
power. The Council will have to choose between a tough stance on
inflation to keep expectations anchored and a pace of tightening that
doesn’t spook businesses, consumers and markets and threaten to derail
recovery.
Again, it is a close call, but given the very real risks to price
stability, which is the ECB’s prime mandate, and the relative health of
the economic recovery, chances are that the ECB will choose to signal
“strong vigilance” on inflation. It would be those words from Trichet
that markets would read as a signal for a June rate hike.
Comments by Council members since the last rate setting meeting —
with the exception of those by Maltese Governor Micheal Bonello — have
all been on the hawkish side, further supporting this analysis.
Nor does the renewed turmoil in sovereign debt markets appear to be
steering the ECB off its tightening course. ECB Vice President Vitor
Constancio on Tuesday reiterated that, as serious as the debt tensions
may be, they have not derailed the economic recovery of the Eurozone as
a whole. ECB polices are and can only be targeted at the aggregate level
and not at weaker member states, he stressed.
More broadly, the ECB appears to be increasingly withdrawing from
the fight against the sovereign debt crisis, leaving that responsibility
in the hands of fiscal authorities. The bank has refrained from
intervening in the bond market for five consecutive weeks now, even as
bond spreads continued to spiral.
Any significant return to the market in the near term appears
unlikely since a number of Council members have signaled that the bank
is all but ending its controversial Securities Market Programme. Even
the dovish Athanasios Orphanides said, “it is increasingly hard to
justify the continuation of the SMP.”
Trichet is unlikely to make any specific commitments regarding the
SMP on Thursday. Instead, he will probably reiterate that the program is
ongoing and that data published on a weekly basis give enough
transparency about the status of the ECB policies.
Any decision to officially close the facility would likely not come
before June’s European Council meeting in which the EU Heads of State
and Government are expected to approve changes to the EFSF, thus
providing fiscal authorities with the tools they have chosen — even if
the ECB considers them insufficient — to fight the crisis.
The fact that the ECB deems these tools insufficient, however, may
mean that they will keep the SMP open, even if inactive, for some time.
Orphanides said that “the mere presence of the programme, even if no
purchases at all are made for a very long time can be a stabilizing
force in the markets in case additional tensions appear on the horizon.”
Trichet is also unlikely to offer any fresh insights into the ECB’s
liquidity policy in the months ahead. Instead, he should put off answers
to these questions until July when the central bank must reveal its new
refi schedule.
However, Trichet is likely to stress once again that the central
bank’s monetary policy and non-standard measures are strictly separate,
thus allowing for an extension of unlimited liquidity provision even as
interest rates rise.
A number of Council members, most vociferously Juergen Stark, have
recently suggested that the ECB is keen to resume its exit from
non-standard liquidity measures.
April’s Bank Lending Survey, however, showed credit conditions
tightening further mainly due to banks’ liquidity positions. This
highlights that conditions remain far from normal and suggests that the
central bank would only act very gradually if at all in July.
–Frankfurt newsroom +49 69 72 01 42; e-mail: jtreeck@marketnews.com
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