In a comprehensive speech today at the annual European Central Bank Forum, ECB President Mario Draghi concurred that, “In the absence of improvement, such that the sustained return of inflation to our aim is threatened, additional stimulus will be required.” Throughout the speech – and indeed across ECB commentators as the conference continues – markets are hearing a clear dovish signal that the ECB is likely to enact more monetary stimulus unless the economic outlook improves. Following the speech the euro fell 0.3%, the Euro Stoxx 50 jumped 1.3%, Bund yields pushed their all-time lows beyond -0.3% and inflation forecasts rose, albeit modestly, which has been a rare occurrence in 2019.
For six and a half years, the European Central Bank has consistently undershot its (below but close to) 2% inflation target; apart from a 4-month blip near the end of 2018 when HICP data was a fraction above target. Since the end of last year inflation measures and forecasts have plummeted with the latter reaching all-time-lows of 1.10 as measured by the Euro 5y5y inflation swaps. Furthermore, the US is painting a similar picture with its 5y5y rate plummeting from 2.3% starting May to 1.92 this week. Today’s speech seemed almost necessary in the context of growing market concerns that Central Banks have lost control of inflation expectations. However, Draghi reaffirmed that the Asset Purchase Programme still has “considerable headroom” and that the ECB “will use all the flexibility within our mandate to fulfil our mandate – and we will do so again to answer any challenges to price stability in the future”.
Just yesterday, in an interview with the Financial Times, ECB executive board member Benoît Cœuré stressed that, “the ECJ has also affirmed the principle that we should have broad discretion in designing our instruments. THE LIMITS ARE OURS. We already have some degree of freedom across securities.” Cœuré’s comments, along with Mr Mario-“whatever-it-takes”-Draghi’s and others’, signal that the ECB is not only prepared to cut rates but renew asset purchases – perhaps with increased allocation limits or even abandoning the capital key to allow disproportionate flows into regions facing greater stresses.
Again it seems market pressures have caused monetary policy makers to flinch where, arguably, fiscal stimulus would be the more effective countermeasure. This has been Draghi’s warning for years now, to little effect, and as he approaches the end of his term in October there is an ever greater chance of market jitters over the long-term ramifications of this pattern of expending monetary stimulus ammunition alongside idle and inept fiscal policy intervention across Europe.