Draghi urgency for ECB action gets final reality check

Mario Draghi is about to find out just how urgent his call for action has become.

One week after the European Central Bank president vowed to revive inflation “as fast as possible,” policy makers will receive a glimpse on just how feeble cost pressures are now. Economists forecast euro area data on Nov. 28 will show price growth matching the weakest since 2009, which would add to the drumroll for a stimulus debate at the ECB’s Dec. 4 meeting.

Bond yields from Spain and Italy fell to record lows and stocks gained today on speculation the ECB will buy sovereign debt. Draghi has stoked pressure toward purchases as panels of officials study possible new measures and prepare to cut their economic outlook. Colleagues from Germany to the Netherlands and Austria are unconvinced quantitative easing is warranted, and his vice president has suggested the ECB might hold off until 2015.

“The stakes are high and the risks are asymmetric,” said Frederik Ducrozet, an economist at Credit Agricole in Paris. “A drop in inflation, even a small one, could push the ECB to do something more in December. On the other hand if there is an upside surprise, that buys them time.”

Inflation data for November are forecast to show a dip to 0.3 percent from 0.4 percent, while economic confidence is seen declining and October unemployment staying at 11.5 percent, according to economists surveyed by Bloomberg News before those reports this week.

Inflation Target

The inflation rate has held below half the ECB’s target of just below 2 percent for the past year, spurring interest-rate cuts as well as programs of long-term bank loans and covered- bond buying, with purchases of asset-backed securities starting last week.

Draghi will speak in Helsinki on Nov. 27, a final opportunity to signal his intentions for policy next week after a series of public comments seeming to prepare the ground for fresh stimulus. The latest of those was on Nov. 21 in Frankfurt.

“We will do what we must to raise inflation and inflation expectations as fast as possible,” he said, adding that the latter “have been declining to levels that I would deem excessively low.”

The ECB president also explicitly cited government bond buying as a policy tool earlier last week. “Unconventional measures might entail the purchase of a variety of assets, one of which is sovereign bonds,” he said in Brussels Nov. 17.

Quantitative Easing

Economists from Credit Suisse Group AG and Goldman Sachs Group Inc. said Draghi’s Nov. 21 comments indicate the ECB will buy sovereign debt.

“We now think an explicit announcement that the ECB is prepared to undertake a large-scale asset purchase programme — including sovereign debt — is likely at the ECB meeting on Dec. 4,” Credit Suisse analysts led by Christel Aranda-Hassel said in a note. “That would boost markets’ confidence in the ECB’s capacity and determination to expand its balance sheet.”

Goldman’s Dirk Schumacher said it’s more likely than not that ECB will announce a sovereign QE program in the the first half of next year. Goldman previously saw 1-in-3 odds of the ECB conducting large-scale sovereign debt purchases.

Speculation this will happen pushed the 10-year yield on Spain’s government debt below 2 percent for the first time. Spanish yield fell four basis points, or 0.04 percentage point, to 1.97 percent as of 12:12 p.m. London time, the least since Bloomberg began collecting the data in 1993. Equivalent Italian yields fell to as low as 2.158 percent.

‘Rather Skeptical’

Even so, Dutch central bank chief Klaas Knot said on Nov. 18 that he is “rather skeptical” of QE. Bundesbank President Jens Weidmann and ECB Executive Board member Sabine Lautenschlaeger, a former Bundesbank official, are among other policy makers who have signaled opposition to such a move.

ECB Vice President Vitor Constancio, speaking in Florence on Nov. 22, suggested officials are in no rush to act immediately as existing measures start to take effect.

“In the first quarter of next year, we have to assess if indeed the programs are contributing to a pace of increase of our balance sheet that is compatible with the sort of expectation that we have,” he said. “If not, then we have to consider other options.”

ECB Governing Council member Ewald Nowotny, who in October is said to have opposed a program to buy ABS on concerns over balance-sheet risk, today backed Constancio’s slower approach.

“I personally think we should have a steady-hand policy and monitor, firstly, how the economy development really is, and secondly, what the effects are of the measures already taken,” Nowotny, who heads Austria’s central bank, said in Vienna.

Tepid Recovery

While the ECB’s primary focus is on consumer prices, policy makers are also looking at a wider range of data.

Recent statistics have given little indication that the region’s tepid recovery is strengthening. A Purchasing Managers Index for factories and services activity unexpectedly fell to 51.4 in November, the lowest in 16 months, from 52.1 in October, London-based Markit Economics said Nov. 20. A composite measure for Germany, the region’s largest economy, also declined, while French manufacturing reached the lowest in three months.

A gauge of economic confidence, which economists forecast will fall to 100.3 from 100.7, will be published on Nov. 27, while the latest estimate of euro-area unemployment will be released the following day alongside the consumer-price data.

Even so, German business confidence unexpectedly rose for the first time in seven months in November, according to the Ifo institute’s business climate index published today

Company Response

The lack of inflation and growth is prompting companies from Deutsche Lufthansa AG to PSA Peugeot Citroen to respond. The German airline cut its outlook for the second time in six months on Oct. 30, blaming in part a slowing economy and weak price pressures. French carmaker Peugeot is planning 2,450 additional job cuts, according to an internal document obtained by Bloomberg News last week.

With the euro-area economy barely expanding, businesses are likely to hold off on big spending decisions, said Ludovic Subran, chief economist at Euler Hermes in Paris. Gross domestic product grew just 0.2 percent in the third quarter.

“The signals are so low-frequency that only dolphins can hear them,” Subran said. “No one wants to bank major investment decisions.”


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