ECB Preview

February 4, 2009

I do not expect ECB policymakers to reduce its 2.0% refinancing rate, and neither does the market consensus.  The decision will be revealed Thursday at 12:45 GMT.  Based on remarks by President Trichet a month ago, it would have taken much weaker trends than expected to compel the Governing Council to ease in February.  Weak growth and lower inflation would not have sufficed.  Those developments were predicted by officials.  There had to be an element of surprise.  In the month leading up to the January meeting, almost all European and global data performed more weakly than expected.  The past month produced greater a balance between better-than-expected indicators and ones that were poorer than forecast by private analysts.  Private forecasts are a good proxy for what officials were likely assuming.

Trichet made several points at the January press conference that suggested no rate change in February.

  1. He rejected the notion of a deflation risk, agreeing only that the risk of inflation had diminished.
  2. In answer to several questions, he stressed that the March meeting, when new staff forecasts will be unveiled, will be a significantly more meaningful event than the February meeting.  Note, too, that only three weeks have elapsed since the January meeting, which occurred at mid-month.  European monetary officials like to stress that they do not aim to fine tune. 
  3. Trichet pointed out that January’s cut of 50 basis points had been smaller than December’s of 75 bps, and he stressed that 2.0% is low not just for the history of the ECB but in terms of rate history prior to 1999 among common currency’s participants.
  4. Officials aim to avoid a liquidity trap, which can develop even before central bank rates hit zero.
  5. Policymakers attempt to achieve CPI inflation that is below but close to 2% in the medium term.  The latest reading of 1.1% in the CPI does not mean that rates of 2% are too restrictive.  Measures of expected inflation had as of January remained steady, low but not too low, and overall consistent with the central bank’s target. Ergo, Trichet rejects the notion that policymakers are behind the curve.

Trichet did repeat that the Governing Council does not pre-commit future policy moves.  That’s another way of saying in this business to never rule anything out or in.  But he laid out a road map a month ago from which one could infer that, barring major surprises, rates would not be changed further in February.  The past three weeks have not dealt surprises that should qualify as justifying a deviation from what officials deemed most likely to happen now.

Copyright 2009 Larry Greenberg.  All rights reserved. No secondary distribution without express permission.

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