European Central Bank Poised For Action? - Concerns About the Euro Zone Economy
European Central Bank Poised For Action?: Concerns About the Euro Zone Economy
The European Central Bank is waiting to take action to boost the euro zone economy based on what the inflation forecasts lead to. Outsiders are being prevented from pressurising the bank to take action. The euro’s strength is a matter of concern as the exchange rate will have to be addressed. A meeting was held at Brussels recently to discuss all the instruments available to the bank’s policymakers.
Euro zone inflation has ticked up to 0.7% this April from 0.5 last March. This is far below the target of fewer than 2% put forth by the ECB. The projected path of inflation is now a source of worry. The European Central Bank is now looking to observe the staff projections that are released in the beginning weeks of June.
Interest cuts. Liquidity measures and quantitative easing are some of the topics which have been discussed so far. Quantitative easing is the procedure of printing money to buy assets. Leading financial institutions in the world such as the Bank of Japan, US Federal Reserve and the Bank of England are using this method for financing assets.
The euro had hit a 2 and a half year high against the dollar before it fell when it was indicated that the ECB would take action in June. The ECB governing council had met in Brussels following a dispute between France and Germany regarding the ECB policy pertaining to the strength of the euro.
The euro’s strength is a trigger for policy action. The governing council voiced its concerns regarding the strengthening of the euro in the backdrop of low inflation and fall in the level of economic growth and activity. While countries led by France as well as other institutions have been taking the step to urge ECB into action, the issue remains closed to debate. The ECB has declared that its independence is necessary so that its credibility is not damaged in any way.
ECB is ready to act in the month of June but speculations are rife as to what course of action it will take. The idea of a broad based asset purchase programme was initially proposed when it looked as if inflation was about to worsen. Following some meetings with German lawmakers, the ECB’s chief Draghi went against the idea of the QE anytime in the near future.
While quantitative easing is being considered, the ECB has made it clear that the QE is a long way off. Ongoing low rates of inflation are creating concern among many European nations of late. A cut in the rates is possible. This includes the main refinancing rate of the ECB and its deposit rate.
The ECB would have to charge banks for holding their money overnight if they cut the deposit rate into negative territory from zero. This would cause lending to households and companies to increase. Several policy makers have proposed that this move will be the preferred step to take if the euro continues to remain weak.
Broad asset buying plans are still in question. Targeted funding operations will encourage banks to lend to SMEs. Cheap long term loans could then be offered by the ECB to support the market for SME loans. Smaller companies that form the base of the euro zone economy would then be able to access credit on a more positive basis. Noted economists are saying that smaller measures such as a small rate cut may not have the desired impact. It may only lead to a decline in the exchange rates by a couple of cents. The larger question is whether the ECB will have any such option if the euro continues to decline in strength.
With so many nations within the EU, it is not uncommon or unusual that there may be a dispute between countries regarding the possible course of action. The ECB seeks to pursue independence in policymaking. The trouble is that whichever option it chooses will involve siding with either Germany or France. With any decision it takes making a huge impact on the euro zone economy, it certainly looks as though the ECB has tough decision making to do in the coming months.
