By Howard Schneider and Balazs Koranyi
WASHINGTON/FRANKFURT (Reuters) – “Patient” monetary policy. “Muted” inflation. “Uncertainty” over global trade and government policies that may be undermining the economy.
Evidence of a world slipping back to an inflation-less, slow-growth norm – the outlook that prompted the U.S. Federal Reserve to halt its interest rate hikes in January – has now forced a broader pivot among major trading nations as governments from Beijing to Ottawa take stock of a decaying outlook.
In announcing a sharp downgrade of euro zone growth and a surprise move to loosen monetary policy, European Central Bank President Mario Draghi on Thursday coined what may be the motto of the times: “Continued weakness and pervasive uncertainty.”
Those five words sum up why the ECB pushed back consideration of any rate increase to next year and expanded lending to banks to stave off a credit crunch.
The action was a response to weak inflation and growth data.
Following on the heels of the Fed’s pause of its tightening cycle, the launch of stimulus in China this week, and a debate over more action by the Bank of Japan, the ECB’s latest policy decision completes a dramatic turn from just a year ago when the world seemed in the midst of a synchronized expansion.
If anything, the world economy is now throwing off signs that an era of coordinated stagnation may have arrived.
Anchored by the long-run demographics of aging populations and low productivity, the situation has been aggravated, Draghi and other central bankers have noted, by geopolitical risks like Britain’s plan to leave the European Union, and U.S. protectionist moves that have begun exacting global costs.
The ECB’s forecast of overall 1.1 percent growth this year for the 19 EU nations that make up the euro zone is less than half of the 2.4 percent predicted a year ago. U.S. growth is expected to slow as well as the impact of President Donald Trump’s $1.5 trillion tax cut package as well as federal spending begin to wane.
“The slowdown of foreign growth now appears to be more persistent than initially assumed,” Fed Governor Lael Brainard said in remarks on Thursday that continued the U.S. central bank’s shift to what she called “softer” policy.
That “persistent” weakness, she said, reflects the complex challenges faced by China, which this week marked down its growth forecast for 2019 to a 30-year low of between 6 percent and 6.5 percent, weakness in Germany, and struggles in Japan, all overlaid with the turbulence caused by the ongoing trade conflict between the United States and several of its key economic partners.
And it is likely to make it harder for anyone to break out.
Lower interest rate expectations in Europe mean a likely rise in the U.S. dollar, weaker inflation in the United States as imports grow cheaper, and slower U.S. growth as the cost of American exports rise on world markets.
That will add to uncertainty about the U.S. outlook and further limit the Fed’s already diminished need to further raise rates. The U.S. central bank lifted borrowing costs four times in 2018, signaled as late as December that more hikes were coming, and then backed down in January.
The ECB’s U-turn added to growing investor angst over a weakening global economy, leading to sharp declines on global equity markets on Thursday. Benchmark U.S. and European sovereign debt yields tumbled on the blow to inflation expectations.
Draghi, echoing Fed Chairman Jerome Powell’s comments in January, said it was largely the global environment and political risk that had forced the ECB to change course.
The challenges to European growth are “mostly of external source,” including Brexit and U.S. trade policy, he said. “The uncertainty is over how long these will continue affecting the world economy, the euro economy, and confidence more generally.”
That is a question that has become ever more important to policymakers worldwide as the Trump administration intensified its efforts over the past year to challenge and rearrange the global trading system to the United States’ advantage as part of an “America First” policy.
In effect, ECB officials argue, a broad sense of uncertainty regarding U.S. trade policy, Brexit, and other risks has now taken hold and begun to erode the economic outlook more severely the longer it persists.
Recent studies have begun tallying the narrow costs of things like the tariffs imposed by Trump, with a recent analysis saying the measures imposed so far are taking about $4.5 billion per month directly out of the wallets of American consumers and businesses.
But the more chronic impact may be the corrosion of confidence in a global recovery that was running full tilt in 2017 and much of 2018. Throughout that time, U.S. central bankers spoke optimistically of “tailwinds” they felt would let them continue raising rates.
That has given way more recently to disappointing business investment, weaker-than-expected consumption, and market volatility that took a record $3.8 trillion out of U.S. household wealth late last year.
In Europe, much like in the United States, Draghi noted signs of continued economic health that included ongoing job gains and broad wage growth.
But they are not proving robust enough to lift growth beyond a very limited range, and the hope now is that the shift by central banks will at least put a floor under the world economy that prevents anything more serious from occurring.
The ECB’s action, Draghi noted, did nothing to right the balance of risks Europe is facing, which remain tilted to the “downside,” but only guard against something worse.
“Our decisions certainly increase resilience of the euro zone economy,” he said. “Can they address the factors weighing on the euro zone economy? They cannot.”