Last week Eurostat, the EU statistical service, confirmed that Eurozone inflation was stuck at zero percent in April, remaining in the region of deflation. No need to mention what a too low or zero or negative inflation means for a stagnating or even receding economy. Add to that the perilous position of Greece in and out of Eurozone, with Germany setting the rules in this game, plus the new and capricious political chapter in Spain which opened after last Sunday’s municipal elections; no wonder why the euro is losing ground and the European capital markets watch their capitalization drifting. Let’s take one thing at a time.
Eurostat’s estimates of inflation are published on a monthly base. At the end of every month the statistical service releases a flash estimate of the inflation rate for the last 30 days, which is confirmed or corrected around the 20th day of the next month. In the case of this April inflation rate Eurostat confirmed that inflation was a straight zero. On the shaky character of the Eurozone’s economy the ‘European Sting’ commented last week (18 May) that, “… unfortunately for us all, Eurozone doesn’t look like having abandoned the dangerous area of deflation and recession…”.
The prevailing economic and in some respects political uncertainty in the euro area has prompted the European Central Bank to introduce unconventional monetary policy instruments, to fight disinflation (falling inflation) and deflation (negative inflation). Obviously the ultimate target is to help the economy enter a solid growth path. The latest and more powerful of those extraordinary tools is the sovereign bond purchases program, which is financed through issuing and using of at least one trillion of freshly printed euros in total.
This public bond buying plan started last March with a round sum of €60 billion and is expected to continue at the same or increased monthly spending pace until September 2016. However Germany had been opposing it since its inception in November 2014. Currently the Berlin government and the country’s central bank, the Bundesbank continue undermining it.
Germany doesn’t care much
It seems though that the qualified predictions about inflation are not at all encouraging and the ECB must have evidence for more retrogress. As a result, despite the strong German opposition to the government bond purchases program, the ECB has decided to reinforce rather than weakening it. This fact may also indicate the extent of the deflation risks Eurozone is exposed to. The decisiveness the ECB shows in this case is unparalleled.
Mersch says it loudly
Nevertheless such things have to be spelled out loudly in order to help enhance the effects of the actual action and ECB’s governors know that very well. To this effect, Yves Mersch, member of the inner Executive Board of the ECB, speaking in Stockholm on 18 May 2015 said: “asset purchases have a strong signalling effect. They send a powerful signal…which helps re-anchor inflation expectations and lower real interest rates. And they also signal that liquidity…further supports the easing of real interest rates and the exchange rate. The effectiveness of these signaling effects is predicated on the implementation of our program in full…that is, we will maintain the pace and volume of our intervention until we see a sustained return of inflation towards a level below, but close to, 2 % over the medium-term”. Obviously this means lower real interest rates, a prospect that Germany detests.
Mersch went even further and clarified that the ECB won’t back off from considering deflation as ‘enemy’ No1. He clarified that “The diminishing price pressures over recent years have required the ECB to act forcefully and repeatedly to fulfill its mandate. This culminated in January 2015 with our decision to expand our asset purchase program to stave off deflationary risks and stop the fall of inflation expectations…we will safeguard price stability no matter what. This is our mandate as enshrined in the Treaty. And although our instruments have changed our conviction and mission have not”.
In concluding, he went as far as accusing, albeit indirectly, Germany and the German moneybags of trying to bully ECB towards serving the very interests of Berlin, and thus neglecting the interests of every other euro area member state. He stressed that, “Some might wish that we use our armory for other purposes. But we will not be moved. We are an independent institution. Our rules are non-negotiable and we do not act for the benefit of interest groups or individual countries. Nor can financial stability considerations override our primary objective”. Such unusually strong language used by a central banker is a double-edged sword though.
A message with double meaning
It’s apparent then that the clarity, the force and even the fervor that Mersch showed in Stockholm have a double meaning. Of course his prime target was to put emphasis on the fact that the ECB is unstoppable in what it does. There is one more possible interpretation though. The strong words he used may also mean that the ECB may be in a difficult position. It may be running out of ammunition, if its present action doesn’t produce the desired results. That’s why he is so openly scolding those who undermine ECB’s policies.
Hopefully those monetary instruments the central bank is using for the first time turn out the much wished for outcome. The ECB through Mersch recognized – again for the first time – that its monetary policy has as a target to ‘ease the exchange rate’. Until now the ECB denied that it targets any specific exchange rate, presumably out of concern about possible retaliation from the other major central banks. However, it seems that in view of the shakiness of the current economic and political circumstances, the ECB is using all the ammunition it has.
The ECB cries out
Unquestionably, Mersch’s speech in Stockholm set a new platform for ECB’s policies. Understandably, the magnitude and the extent of his revelations couldn’t be without the consent of Mario Draghi. Actually certain circles accused the former of revealing ECB’s new policies to a restricted audience before being officially communicated and thus placing every other investor in a disadvantageous position.
Unfortunately, all that does not offer any comfort and reassurance to us all, workers, pensioners and the unemployed of Eurozone.