ECB’s Midsummer Blues Haunt Last Hilltop Gathering of Draghi Era
(Bloomberg) -- A sense of unfinished business is likely to overshadow this week’s gathering of European Central Bank officials at the final academic summer retreat of Mario Draghi’s reign.
It’s five years since the ECB president established his answer to the Federal Reserve’s Jackson Hole symposium. In that time, the alarm at the deflation risk that gripped him and his colleagues back in 2014 has given way to unrelenting frustration at the frailty of inflation, laced with dread at the prospect of another slowdown.
Policy makers will convene with economists in Sintra, a royal holiday resort in southwest Portugal, to laud two decades of the euro zone while pondering what tools they have left to defend the economy from a barrage of U.S. trade threats and political strife such as Brexit. Underscoring their relative impotence, they’ll be talking just as the Fed -- which has much more room to cut interest rates if needed -- meets in Washington.
“The ECB pulled the euro-area economy from the brink of disaster several times,” said Marcel Fratzscher, president of the German Institute for Economic Research, who will take part in a panel on the future of the monetary union. “The ECB can’t do more than provide liquidity and the confidence that it will act whenever it has to, so the fault is really in the politicians’ camp for not having done enough.”
Draghi has said fiscal policy will need to play a “fundamental role” in the next downturn. That line of thinking could be echoed by Olivier Blanchard, the former International Monetary Fund chief economist, who has called for larger deficit spending and an overhaul of European fiscal rules. He’ll give a dinner speech on Monday.
Other invited luminaries include Bank of England Governor Mark Carney and former Fed Chair Janet Yellen. European Commission President Jean-Claude Juncker will give a keynote. His term finishes on the same day as Draghi’s -- Oct. 31 -- and European Union leaders will haggle over succession plans at the end of this week.
Draghi hardened his language this month when he said policy makers could cut rates further below zero and have “considerable headroom” to restart QE if needed. Investors are betting they’ll probably do at least one of those things.
But that pledge couldn’t stem the slump in market-based inflation expectations, which are now at a record low. That’s a real worry for the ECB’s credibility. It’s deposit rate is minus 0.4%, almost three percentage points below the U.S. fed funds rate.
Vice President Luis De Guindos said in an interview published Saturday that the ECB will add stimulus if inflation expectations become “deanchored” -- a signal that investors and the public no longer believe the central bank can restore price stability.
Draghi has used Sintra in previous years to sway investors. In 2017, the currency jumped when he said stimulus could be pared back as the economy grows. A few months later, the Governing Council announced it would slow its bond-buying program. Last year, the euro dropped after he said the ECB would be “patient” in determining when to raise rates.
Angel Ubide, head of economics research for global fixed income at hedge fund Citadel, says one option for the ECB is to restart QE with a pledge it will keep going until price stability is achieved. That could also include running inflation above 2% for a while.
“That would open the space for fiscal policy and for governments to do things in a different way,” he said. “It’s a cooperative game, and that’s what needs to be better understood in Europe.”
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