ECB: Notes Euro strength but is confident in gradually meeting HICP target - ANZ

Brian Martin, Research Analyst at ANZ explains that the ECB acknowledged the strength of the euro and said that its strength is being monitored, but that was more a statement of fact.

Key Quotes

“The ECB offered no clear indication of policies to address the euro’s strength, and Draghi refused to comment on specific levels of the exchange rate.”

“Draghi did say that the ECB intends to announce most of the features of the recalibration of QE at the 26 October monetary policy meeting. This is despite the fact that the ECB tweaked its HICP inflation forecasts lower by 0.1 ppt in 2018 and 2019 to 1.2% and 1.5% respectively. That was primarily a result of the exchange rate’s appreciation, Draghi explained. However, it is interesting that the ECB is preparing (as far as we know) to gradually dial back and taper its QE purchases at a time when it has revised down its inflation forecasts and doesn’t expect inflation to reach its target until after 2019.” 

“At first glance, that might seem inconsistent especially as Draghi did mention during the press conference that the exchange rate’s appreciation could threaten the credibility of monetary policy. It would appear therefore, that the speed of tapering and degree of recalibration of QE will depend to some extent on the near term path and strength of the euro. Draghi did re-iterate that the exchange rate is not a policy target but that it is very important for growth and inflation. However, the ECB President refused to get drawn on the level of the EUR or its momentum, which is very much in keeping with the G20 Accord.”

“Draghi reminded the market of the ECB’s rule of thumb – a persistent 10% appreciation in the exchange rate equates to a 0.5% reduction in inflation. Interestingly, he also noted that the degree of pass-through from the euro’s rise on inflation is less if it is driven by endogenous factors rather than exogenous ones. He said that the Governing Council had discussed that, but refused to give any detail except to refer back to the wording in the opening statement. He said that there was much greater uniformity on the council about concern over the euro’s rise at this meeting than there was in July.”

“What we do know is that the ECB is monitoring the exchange rate and won’t let its monetary policy credibility be threatened by the euro’s rise. That may slow QE recalibration, but it shouldn’t reverse the trend improvement in the euro area’s economy which has been a key driver of the euro’s rise, especially as monetary conditions still remain supportive. The euro remains underpinned for now.”   

“Future policy wind-down will be very gradual as the ECB does not anticipate meeting its inflation target until sometime after 2019.”