ECB's Draghi Talks Up a Summer Storm
Mario Draghi's strategy of talking dovishly while keeping monetary policy unchanged has run out of road.
The president of the European Central Bank on Thursday heavily hinted at action in June, saying the governing council was "comfortable" with that idea, subject to new information that will be available by then. But what exact course of action the ECB might take then isn't clear.
Mr. Draghi certainly caught the market off guard. He kicked off Thursday's news conference with remarks that were almost identical to those he made a month ago. That helped push the euro up to within a whisker of $1.40. But then he dropped several bombshells, saying the exchange rate was cause for "serious concern" in the context of low inflation; that the ECB wasn't resigned to tolerating low inflation; and that policy makers were "comfortable with acting next time" subject to new staff forecasts on growth and inflation. The euro promptly tumbled over a cent against the dollar, and stocks and euro-zone bonds rallied.
Mr. Draghi's reversal raises many questions. First, if there is a consensus to act, why wait? Second, how much has the ECB's thinking changed since March? Back then, a forecast for inflation of just 1% this year and 1.7% by late 2016 was judged as allowing monetary policy to remain on hold. True, the June forecasts are likely to show lower inflation for this year—so far it has averaged 0.7%—but may also show higher economic growth. And it is medium-term inflation that policy will be able to influence, not the data unfolding in the coming months.
Most important of all, what might the ECB do in June if it does decide to act? The focus on the strength of the currency suggests that a cut in interest rates combined with a negative rate on the cash that banks deposit at the ECB might be in the cards. ECB officials have previously suggested that this would be the first course of action.
But the ECB's newfound unwillingness to tolerate low inflation points to a potentially bigger response: Mr. Draghi on April 24 said that a worsening of the medium-term outlook on this front could lead to asset purchases, or quantitative easing. However, he said the context for doing so might be a broad-based weakening of demand or a big positive supply shock—neither of which seem to have materialized. QE remains a drastic policy step, and it isn't clear the ECB has worked out what to buy, or how.
Markets will comb speeches from ECB officials in coming days for further guidance. Previously, less obvious hints at ECB action have been followed swiftly by talk about the practical difficulties involved. Mr. Draghi's comments Thursday, however, will make it very difficult to row back now.