No early Christmas gifts in Frankfurt

The ECB did not bring any early Christmas gifts today and left interest rates unchanged. ECB president Draghi stressed the ECB’s determination to fight any deflationary tendencies. However, he was rather unclear on how and when the ECB would act again. Tone and content of today’s meeting were rather typical for these intermediate meetings in which the ECB cannot or does not want to deliver additional action. The introductory statement was almost a verbatim copy of the November statement. The ECB still expects “a prolonged period of low inflation, to be followed by a gradual upward movement towards inflation rates below, but close to, 2% later on”. This assessment of the inflation outlook was backed by the latest ECB staff projections, which forecast headline inflation to come in at 1.4% in 2013, 1.1% in 2014 and 1.3% in 2015. The most remarkable forecast is the 2015 forecast. It is the lowest “2-years-ahead” inflation forecast ever. As regards the economic outlook, the ECB still expects a very gradual recovery in the coming two years, driven by some improvement in domestic demand. This assessment is also reflected in latest ECB staff forecasts, which now foresee GDP growth at -0.4% in 2013, 1.1% in 2014 and 1.5% in 2015. Overall, the subdued growth forecast combined with inflation remaining far below the ECB’s target for three years raises opens the door for further ECB action. Mario Draghi’s statement that “we are fully aware of the protracted downside risks that a longer period of low inflation does imply” combined with the ECB’s forward guidance and a fierce “we are ready and able to act” sent a clear message: the ECB is prepared and preparing to do more. Draghi’s strong hint at further action is another illustration of the ECB’s u-turn on deflationary risks, within a couple of months. It should not be new for the bright minds in the EuroTower that a long-lasting process of structural deleveraging across sectors and economies exerts deflationary pressure. Still, the ECB had been rather benign on deflationary risks for a long while, nicely illustrated by Mario Draghi’s comments at the June press conference that “with low inflation, you buy more stuff”. The November cut apparently has marked a new episode: the deflation-fighting period. Looking ahead, today’s ECB meeting leaves two crucial questions unanswered: i) which additional steps could the ECB really deliver; and ii) what would actually trigger further actions? As regards the ECB’s toolbox, Draghi tried to make it bigger than it probably is. Comments like “we have numerous instruments” or “an entire artillery” were quickly followed by statements that any kind of QE, conditional LTROs like the BoE’s funding for lending scheme or even not sterilising the SMP programme were not easy to implement. We did not get the impression that the ECB already has a detailed plan of action ready. Interestingly, Draghi mentioned that the ECB had briefly discussed the possibility of a negative deposit rate today. As regards the timing of an additional action, Draghi refrained from giving any hints. In our view, Draghi’s comments can be rephrased as: if deflationary forces increase and/or headline inflation drops unexpectedly, the ECB will ease further. Bolder steps that could be a major step to repair the monetary policy transmission mechanism, however, are technically hard to implement and clearly controversial within the Governing Council. Reverting to rather traditional interest rate cuts could eventually still turn out to be the ECB’s first answer to new deflation risks. All in all, ECB president Draghi did not present any early Christmas gifts for the Eurozone. Instead, the ECB will have to use the Christmas period not only for contemplation and reflection but also for more studying of its non-standard measures.