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European Central Bank hints at action in June

May 8, 2014

BRUSSELS (AP) — European Central Bank President Mario Draghi strongly hinted Thursday that the eurozone’s top monetary authority could take action next month to counter persistently low inflation and strengthen the recovery amid worries about the crisis in Ukraine.

The bank’s 24-member rate council refrained from loosening its monetary policy on Thursday. But Draghi said it “would be comfortable with acting next time,” in June, when it will have new staff inflation forecasts.

He added that the council “is not resigned to have too low inflation for too long a time.”

Low inflation is a concern because it makes it harder for people and governments to reduce debt. There have also been worries about deflation, an extended drop in prices that can cripple growth by pushing consumers to delay purchases in hopes of bargains.

The crisis in Ukraine has only added to uncertainty for Europe’s economies and helped push the euro up further as some investors in Eastern Europe put their money in eurozone accounts, perceived as safer.

A strong euro has helped push down inflation, which at 0.7 percent is well below the bank’s goal of 2 percent. To help nudge it up, the ECB could, among other things:

— Cut its benchmark refinancing rate, currently at a record low of 0.25 percent.

— Charge a negative interest rate on bank deposits to discourage banks from parking their cash at the ECB and instead lend the money back into the economy.

— Buy bonds, either government or corporate, with newly printed money, though that step would be far more complicated.

A rate cut or bond purchases could lower inflation by driving down the euro’s exchange rate. The stronger euro has contributed to inflation by making imports more expensive. Lower rates can push down the exchange rate by reducing returns on interest-bearing investments in that currency, and so reducing demand for the currency to make such investments.

“Today’s decision to leave interest rates unchanged was expected, but Mario Draghi’s emphasis on the June staff forecast suggests a rate cut might be in the pipeline,” said Tom Rogers, senior economic advisor to the EY eurozone forecast.

“While it would probably have limited real effect we agree this would be the right move, in that it would at least underline the ECB’s credibility in targeting a return to inflation at the 2 percent target over the medium term, as well as temporarily at least easing upward pressure on the euro,” Rogers said in an email.

Draghi said one reason for the euro’s strength was capital inflows, some of them from investors fleeing turbulence in Eastern Europe caused by Russia’s conflict with Ukraine. Investors putting money in euro-denominated investments drives up demand for the currency.

Escalation of the conflict could also lead to more European and U.S. sanctions against Russia. If Moscow were to retaliate and deepen the conflict, Europe’s economy would suffer “more than other parts in the world,” Draghi said. The European Union is Russia’s biggest trade partner.

Draghi said the European Systemic Risk Board, which he chairs, had convened a working group to assess risks from the Ukrainian crisis, and that several national central banks had done the same.

The euro fell after Draghi’s comments, from a 2 1/2 -year high near $1.40 to $1.3860 by midafternoon in Europe. The drop suggests traders are now expecting looser monetary policy, which tends to weigh on a currency.

“It is now nigh on impossible for the ECB not to act in June,” said Marc Ostwald, an analyst at Monument Securities in London.

Looser monetary policy by the ECB would also support the eurozone’s modest recovery. The European Commission, the EU’s executive, predicts the economy in the 18-country eurozone will grow 1.2 percent this year. Some countries are slowed by high unemployment and cutbacks in government spending to reduce excessive debt.


McHugh contributed from Frankfurt, Germany.

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