An March 10, the European Central Bank (ECB) is planning an exciting meeting. The central bank then intends to announce initial steps to tighten monetary policy, at least that is what is now expected. Or to “normalization”, as the ECB prefers to put it. At this meeting there should be new inflation forecasts from the staff of the central bank. These will be higher than the old ones, there can be no doubt about that. The ECB will then not expect inflation rates to reach drastic levels over the course of the year. But a position that inflation is well below the target of 2 percent in the medium term and therefore still requires unconventional monetary policy measures would probably be difficult to maintain.
Now the ECB leaders are apparently preparing for the meeting with cautious public statements. And that in a process in which one dares to step forward again and again, and then, if the financial markets react too strongly, the statements in the next speech are relativized a bit. It is striking that representatives from the ECB Council, who are not necessarily among the “hawks” who have always called for a tightening of monetary policy, are now speaking out in favor of normalization – even if they warn against haste.
Real estate prices have risen particularly sharply
Most recently, ECB Executive Board member Isabel Schnabel commented. In an interview, she said that when assessing inflation, one should also look at the rise in house prices. The real estate boom increases the risk that monetary authorities will act too late in changing monetary policy, the economist warned in an interview with the Financial Times newspaper. With a view to further monetary policy course determination, she says: “We cannot ignore that.”
Statements by the head of the French central bank, Francois Villeroy de Galhau, are also noteworthy: at an event of the London School of Economics on Tuesday, he brought up an end to bond purchases as part of the longer-term APP (“Asset Purchase Programme”) bond purchase program for the third quarter. An end to net asset purchases is considered a prerequisite for a rate hike. Only the head of the Austrian central bank, Robert Holzmann, had brought up the possibility of raising interest rates before the end of the bond purchases in a conversation with the FAZ. However, some economists would fear difficulties with the so-called yield curve, which describes the relationship between long-term and short-term interest rates. The ECB is trying to influence long-term interest rates with bond purchases, while key interest rates tend to have an effect on short-term interest rates.
How long to wait before raising interest rates?
The ECB’s crisis bond purchase program PEPP (“Pandemic Emergency Purchase Program”) is to end as early as March, as ECB President Christine Lagarde recently confirmed again. At the February meeting of the ECB Council, she did not rule out that interest rates will be raised this year. This had caused a stir on the financial markets. Commerzbank chief economist Jörg Krämer now expects two rate hikes of 0.25 percentage points each by the end of the year. This would eliminate negative interest rates. Other economists expect the ECB to be a bit slower in raising interest rates.
In its forecast, the so-called Forward Guidance, the Governing Council of the ECB assumes that the net bond purchases will end “just before” it starts raising the key ECB interest rates. Villeroy now came up with the idea of deleting the word “short” in order to be able to act more flexibly. However, there is no need to come up with a rate hike plan ahead of the June interest rate meeting: “At this stage, any speculation about this roadmap for future hikes is premature.”
Schnabel also sees arguments in favor of an end to bond purchases. Their benefits may not justify the additional costs, she said. Schnabel indicated increased concern about the development of inflation. If the increase in house prices were included, it would have a significant impact on measured inflation, especially core inflation, which is the rate without volatile energy and food prices, she warned.
It is already part of the ECB’s new strategy that owner-occupied housing should be taken into account when measuring inflation, as in the United States. However, the change should be made gradually. The ECB does not calculate the inflation rates itself, but receives them from the European statistical office Eurostat. Political decisions are sometimes necessary there in order to change the way statistics are collected. Until then, the ECB wants to make do with interim solutions.