ECB Preview

June 8, 2011

My review of the May 5th ECB meeting concluded, “most likely, the statement in June will contain the ‘strong vigilance’ allusion, preparing markets to expect a second rate advance in July.”  In spite of greater concerns now about global growth prospects, signs of slower growth momentum in the euro area, and persistent strains in the currency union’s peripheral members, I stand by my original forecast for three reasons.

Number one, inflation exceeds target and shows no sign of moving below 2.0% soon.  Oil prices are actually 1.6% higher than at the May meeting.  Producer prices advanced 0.9% on month in April, with an on-year increase of 6.7% following an annualized 9.8% gain during the first quarter.  Headline CPI inflation was 2.7% in May, and core inflation advanced from 0.8% in April 2010 to 1.8% a year later.  Three months ago, the ECB raised CPI projections to 2.0-2.6% this year from 1.3-2.3% predicted in December and to 1.0-2.4% in 2012 from a prior forecast of 0.7-2.3%.  A further upward revision seems probable, and an upward risk bias will be maintained.

Number two, although May purchasing manager readings of 54.6 in manufacturing, 56.0 in services and 48.8 in construction confirm that activity momentum is slowing, the levels of those readings point to economic growth in the second quarter that will be only modestly below the first-quarter performance when GDP advanced 0.8% (some 3.3% annualized) and 2.5% on year.  ECB officials have been assuming a slowdown, and this one is not steeper than they imagined.  Regional retail sales rose 0.9% in April, and the trade deficit has been shrinking.  Industrial production ended last quarter on a softer note but still posted 1Q-over-2Q growth of 4.2% annualized.  Projected 2011 GDP growth of 1.3% to 2.1% announced by ECB officials in March probably will be bumped up, while the estimated range of 0.8-2.8% for 2012 probably will be kept as is. 

Number three, ECB officials have consistently separated monetary policy aimed at stabilizing inflation expectations from unconventional measures that address the market dysfunctionality and the problems of the peripheral EMU members.  That’s not going to change.  While setting the stage for a second 25-basis point refinancing rate increase in July, a pledge will be extended to supply as much liquidity as demanded at its refi tenders of 1-week, 1-month, and 3-month maturities during 3Q11.

Since the previous meeting on May 5, the euro has slipped 1.7% against the dollar and 1.0% on a trade-weighted basis.  The yield on ten-year bunds has fallen by 25 basis points, and the German Dax is 4.3% lower now than then.

Copyright Larry Greenberg 2011.  All rights reserved.  No secondary distribution without express permission.



Comments are closed.