© Reuters. The headquarters of the European Central Bank and the Frankfurt skyline with its financial district are photographed on early evening in FrankfurtBy Balazs Koranyi and Francesco Canepa
FRANKFURT (Reuters) – The European Central Bank is set to keep policy unchanged on Thursday, playing down worries over recent softness in the euro zone economy and leaving the door open to ending its lavish bond purchase scheme by the close of the year.
Having tweaked its guidance last month to reflect solid growth, the ECB will probably argue that the economy is humming along and that the exceptional readings seen around the turn of the year were always unlikely to be sustained, economists said.
Indeed, with the 19-country bloc’s economy having expanded for 20 straight quarters, the main debate among policymakers is about how to withdraw stimulus further.
In particular, they need to agree an end-date for the ECB’s 2.55 trillion euro ($3.10 trillion) bond purchase program, which has depressed borrowing costs and kick-started growth, even if it has failed to lift inflation back to target.
“When the going gets tougher, central banks at least initially prefer to sound more confident than they really are,” Bank of America Merrill Lynch (NYSE:) said in a note to clients.
“At a time when both hard and soft data are edging down and trade war rhetoric remains prominent, on balance it probably makes more sense for the Governing Council to try to reassure markets by sticking to the current view of ‘confidence in the convergence’ of inflation toward the ECB’s target.”
ECB President Mario Draghi may argue that growth is still solid and could point to higher oil prices and some improvement in underlying inflation. But he is likely to steer clear of commentary about future policy moves, keeping the bank’s options open in case the outlook continues to soften.
The ECB’s rate decision is due at 1145 GMT (7.45 p.m. ET), followed by Draghi’s news conference at 1230 GMT. Economists polled by Reuters expect bond purchases to end this year after a short taper and see the first rate hike since 2011 sometime in the second quarter of 2019.
TRADE WAR?
With the bond-buying scheme due to expire in September, the ECB will have to decide in June or July whether to extend purchases or wind them down. But with the risk of a global trade war still looming, it may not decide until absolutely necessary, so retaining the flexibility to adjust policy.
“The elephant in the room is, of course, the risk of protectionism stoked by U.S. President Donald Trump that is weighing on euro zone businesses,” Berenberg economist Florian Hense said.
Business sentiment has already taken a hit, particularly in export-focused Germany, and a full-fledged trade war could quickly impact growth — a risk already highlighted by policymakers at the ECB’s March meeting.
A key worry is that protectionist rhetoric from the United States could push down the value of the dollar, an economic anomaly as the Federal Reserve is likely to raise interest rates several times this year, natural support for the U.S. currency.
A stronger euro would cap inflation, a headache for the ECB as price growth is set to miss its near 2 percent target, the central bank’s sole policy objective, for years to come.
Euro zone inflation is so weak that even after the creation of 9 million jobs since early 2013, measures of underlying price growth that strip out energy and food are barely rising.
This suggests that the euro zone’s economic downturn was more severe than earlier thought and makes the recovery even more protracted.
The impact of the euro’s strength has been relatively limited so far, however. The currency is up 1.5 percent against the dollar this year and just 0.3 percent higher on a trade-weighted basis.
Even if the currency impact were to bite, the ECB has little scope to extend purchases much longer, suggesting it will take an extremely cautious approach to normalizing policy, even if it risks erring on the side of caution and moving too late.
“That any shift is likely to be incremental isn’t new,” Morgan Stanley (NYSE:) said in a note to clients. “What’s new is that there’s the risk that it turns out to be even more incremental than currently envisaged.”
Source: Investing.com
