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ECB wants to play it safe - and does nothing

The European Central Bank is keeping monetary policy firmly on hold. There will be no immediate changes as nervousness increases ahead of two high-risk elections in the Netherlands and in neighboring France.

At its policy meeting in Frankfurt on Thursday, ECB governors decided to resist growing calls to pave the way for a tightening of monetary policy.

The central bank left its low interest rates and huge asset purchase program intact, although raising its inflation outlook. ECB president Mario Draghi said prices should increase 1.7 percent in 2017 and 1.6 percent in 2018, revising up the central bank's earlier forecast of 1.3 percent and 1.5 percent respectively. For 2019, the ECB left its prediction unchanged at 1.6 percent.

Despite the increased forecasts, Draghi said that the ECB would not increase interest rates or look to wind down its mass bond-buying program. Such loose monetary policies are designed to boost growth and inflation in the 19-nation eurozone, bringing price increases towards the central bank's target of "close to, but below 2.0 percent."

Inflation stood at 2.0 percent in February, but Draghi reiterated that the ECB's governing council planned to "look through" short-term spikes in the reading due to volatile food and energy prices. He cautioned that while “the risks of deflation have largely disappeared," he was not yet ready to "pronounce victory on the inflation front."

"Wages growth is the linchpin of a self-sustaining rise in inflation . . . that is the key variable,” he said, later adding: "It's not the only point, but it’s an important element of our assessment." 

Although economic growth and consumer prices are both picking up, the central bank is wary of a growing number of political risks and a still fragile recovery in the eurozone nearly a decade after the bloc's economic woes began.

Not everyone agrees

But the Munich-based Ifo economic research institute insisted Thursday a change of policy was overdue.

According to its own calculations, the think tank expects an inflation rate of just below 2.0 percent in Germany and the euro currency area as whole for 2017, meaning that it would achieve "just what the doctor [the ECB]  ordered," with the central bank's recommended annualized inflation rate defined as being little under 2.0 percent.

"This is an indication that it's time for the European Central Bank to start phasing out its expansionary monetary policy in Europe," Ifo President Clemens Fuest said in a statement Thursday.

He suggested that the bank "now take its foot off the gas and scale back its bond purchases by 10 billion euros ($10.6 billion) a month as of April."

The ECB is currently pumping 60 billion euros into bond purchases every month to boost inflation toward the two-percent threshold.

Consumer prices in the eurozone increased by 2.0 percent In February, Eurostat figures showed last week. It was the first time since 2013 that the monthly inflation rate outstripped the ECB's own mandate.

Watch video 01:30

ECB extends bond purchases (2016)

Two kinds of inflation

But ECB governors have argued that it makes little sense to react to individual data points and "short-lived increases in inflation." ECB President Mario Draghi told European lawmakers that the monthly pickup in February did not automatically mean the rate hike would persist for the rest of the year. "Support from our monetary policy measures is still needed," he reasoned.

The ECB has generally been extremely cautious to exit its monetary stimulus program too quickly, afraid of nipping in the bud a still fragile economic recovery across the single-currency area.

Ifo's Clemens Fuest thinks little of the ECB's argument that inflation in the eurozone is still rather weak, if you delete volatile items such as energy and food costs from the equation. After all, current hikes in consumer prices have been driven by exactly those two factors, forcing consumers to pay more for at the pumps and in grocery stores.

But Fuest cites Ifo's own surveys revealing that "a growing number of firms plan to raise their prices in the months ahead", driving up core inflation to at least 1.5 percent in Germany and the whole bloc.

Hence, he argued, there was no time to waste for the ECB to finally "stem the flood of money or risk overshooting its target."

Watch video 03:09

Bundesbank chief discusses eurozone monetary policy

hg/uhe/jd (AFP, dpa, Reuters)

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