Thursday, January 19, 2017

ECB holds rates, easy policy needed to boost inflation

    The European Central Bank (ECB) left its key policy rates and asset purchase program unchanged, as expected, and said "a very substantial degree of monetary accommodation is needed for euro area inflation pressures to build up," a likely move to dampen any speculation that it is considering scaling back its ultra-easy policy in light of rising inflation.
     The ECB, which in December trimmed its monthly asset purchases to 60 billion euros from a current 80 billion but extended the program until the end of 2017 from March, added that it remains ready to increase the size and duration of quantitative easing "if the outlook becomes less favorable" or the progress toward higher inflation stalls.
    In his press conference, ECB President Mario Draghi also repeated the ECB expects its key rates to "remain at present or lower levels for an extended period of time, and well past the horizon of our net asset purchases."
    The ECB's benchmark refinancing rate has been at zero percent since March 2016 and the deposit rate at minus 0.40 percent.
    A jump in euro area inflation to 1.1 percent in December from 0.6 percent in November to the highest level since September 2013 triggered calls by some German economists for the ECB to start to tighten its policy and even raise rates.
    But Draghi said the rise in inflation was mainly due to higher energy prices and "there are no signs yet of a convincing upward trend in underlying inflation."
    Draghi expects headline inflation to rise further in the near term due to higher energy prices while  underlying inflation only will rise more gradually.
    Core inflation in the 19 countries that share the euro rose to 0.9 percent in December from 0.8 percent in the preceding four months. 
    The ECB, which targets inflation of just below but close to 2 percent, in December forecast 2016 inflation of 0.2 percent, rising to 1.3 percent in 2017, 1.5 percent in 2018 and 1.7 percent in 2019.
    The economy in the euro area grew by an unchanged annual rate of 1.7 percent in the third quarter of last year but Draghi said data pointed to a somewhat stronger growth in the fourth quarter.
    But he also said growth would still be dampened by "a sluggish pace of implementation of structural reforms and remaining balance sheet adjustments," reiterating that the risks remain tilted to the downside, mainly due to global factors.
     The ECB has forecast 2016 growth of 1.7 percent and the same rate in 2017. For 2018 the ECB expects unchanged growth of 1.6 percent and the same rate for 2019.
    The euro fell sharply against the U.S. dollar in the second half of 2014 and has remained weak since then with some economists forecasting that it could fall to parity with the dollar this year as the U.S. Federal Reserve continues to normalize policy and raise rates while the ECB continues with low rates and asset purchases.
    But helped by an improved outlook for the global economy, higher inflation and speculation the ECB could alter its planned asset purchases, the euro has firmed in recent weeks.
    But the euro fell back following today's policy decision to 1.060 to the dollar from 1.067 though it  remains up from 1.052 at the start of the year.

    The European Central Bank released the following introductory statement by its president, Mario Draghi:

"Ladies and gentlemen, first of all let me wish you a Happy New Year. The Vice-President and I are very pleased to welcome you to our press conference. We will now report on the outcome of today’s meeting of the Governing Council.
Based on our regular economic and monetary analyses, we decided to keep the key ECB interest rates unchanged. We continue to expect them to remain at present or lower levels for an extended period of time, and well past the horizon of our net asset purchases. Regarding non-standard monetary policy measures, we confirm that we will continue to make purchases under the asset purchase programme (APP) at the current monthly pace of €80 billion until the end of March 2017 and that, from April 2017, our net asset purchases are intended to continue at a monthly pace of €60 billion until the end of December 2017, or beyond, if necessary, and in any case until the Governing Council sees a sustained adjustment in the path of inflation consistent with its inflation aim. The net purchases will be made alongside reinvestments of the principal payments from maturing securities purchased under the APP.
The Governing Council today also decided on further details of how the Eurosystem will buy assets with yields below the interest rate on the deposit facility under its public sector purchase programme. These decisions will be published in a separate press release at 15.30 CET.
The monetary policy decisions taken in December 2016 have succeeded in preserving the very favourable financing conditions that are necessary to secure a sustained convergence of inflation rates towards levels below, but close to, 2% over the medium term. Borrowing conditions for firms and households continue to benefit from the pass-through of our measures. As expected, headline inflation has increased lately, largely owing to base effects in energy prices, but underlying inflation pressures remain subdued. The Governing Council will continue to look through changes in HICP inflation if judged to be transient and to have no implication for the medium-term outlook for price stability. 
A very substantial degree of monetary accommodation is needed for euro area inflation pressures to build up and support headline inflation in the medium term. If warranted to achieve its objective, the Governing Council will act by using all the instruments available within its mandate. In particular, if the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, we stand ready to increase our asset purchase programme in terms of size and/or duration. 
Let me now explain our assessment in greater detail, starting with the economic analysis. Euro area real GDP increased by 0.3%, quarter on quarter, in the third quarter of 2016, after recording a similar pace of growth in the second quarter. Incoming data, notably survey results, point to somewhat stronger growth in the last quarter of 2016. Looking ahead, we expect the economic expansion to firm further. The pass-through of our monetary policy measures is supporting domestic demand and facilitating the ongoing deleveraging process. The very favourable financing conditions and improvements in corporate profitability continue to promote the recovery in investment. Moreover, sustained employment gains, which are also benefiting from past structural reforms, provide support for private consumption via increases in households’ real disposable income. At the same time, there are signs of a somewhat stronger global recovery. However, economic growth in the euro area is expected to be dampened by a sluggish pace of implementation of structural reforms and remaining balance sheet adjustments in a number of sectors. The risks surrounding the euro area growth outlook remain tilted to the downside and relate predominantly to global factors.
According to Eurostat, euro area annual HICP inflation increased markedly from 0.6% in November 2016 to 1.1% in December. This reflected mainly a strong increase in annual energy inflation, while there are no signs yet of a convincing upward trend in underlying inflation. Looking ahead, on the basis of current oil futures prices, headline inflation is likely to pick up further in the near term, largely reflecting movements in the annual rate of change of energy prices. However, measures of underlying inflation are expected to rise more gradually over the medium term, supported by our monetary policy measures, the expected economic recovery and the corresponding gradual absorption of slack. 
Turning to the monetary analysis, broad money (M3) continues to expand at a robust pace, with its annual rate of growth increasing to 4.8% in November 2016, up from 4.4% in October. As in previous months, annual growth in M3 was mainly supported by its most liquid components, with the narrow monetary aggregate M1 expanding at an annual rate of 8.7% in November, up from 8.0% in October.
Loan dynamics followed the path of gradual recovery observed since the beginning of 2014. The annual growth rate of loans to non-financial corporations was 2.2% in November 2016, after 2.1% in the previous month. The annual growth rate of loans to households was 1.9% in November, after 1.8% in October. Although developments in bank credit continue to reflect the lagged relationship with the business cycle, credit risk and the ongoing adjustment of financial and non-financial sector balance sheets, the monetary policy measures put in place since June 2014 are significantly supporting borrowing conditions for firms and households and thereby credit flows across the euro area. The euro area bank lending survey for the fourth quarter of 2016 indicates that credit standards for loans to enterprises are broadly stabilising, while loan demand has continued to expand at a robust pace across all loan categories.
To sum up, a cross-check of the outcome of the economic analysis with the signals coming from the monetary analysis confirmed the need for a continued very substantial degree of monetary accommodation to secure a sustained return of inflation rates towards levels that are below, but close to, 2% without undue delay.
Monetary policy is focused on maintaining price stability over the medium term and its accommodative stance supports economic activity. In order to reap the full benefits from our monetary policy measures, other policy areas must contribute much more decisively, both at the national and at the European level. The implementation of structural reforms needs to be substantially stepped up to increase resilience, reduce structural unemployment and boost investment, productivity and potential output growth in the euro area. Structural reforms are necessary in all euro area countries. In particular, reforms are needed to improve the business environment, including the provision of an adequate public infrastructure. In addition, the enhancement of current investment initiatives, progress on the capital markets union and reforms that will improve the resolution of non-performing loans, are a priority. Fiscal policies should also support the economic recovery, while remaining in compliance with the fiscal rules of the European Union. Full and consistent implementation of the Stability and Growth Pact over time and across countries remains crucial to ensure confidence in the fiscal framework. At the same time, it is essential that all countries intensify efforts towards achieving a more growth-friendly composition of fiscal policies."


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