January 3, 2015
Peter Praet, Executive Board member of the European Central Bank said that measures that were taken to stimulate the Euro zone economy may not be adequate and opined that the European Central Bank may need to do more. These comments strengthened the market expectations that European Central Bank is moving towards purchase of broad-based government bond purchases as a way of pumping money into the economy.
Praet said that additional momentum could come from the drag on the consumer prices as a result of the recent drop in crude oil prices.
In an interview with a German financial newspaper, Börsen Zeitung, Praet said that while the risk of broadly based deflation in the Euro area is not high, Oil’s slump could mean negative inflation for a substantial part of 2015. The steps taken so far might not be enough to raise the inflation from a dangerously low level. Dangerous, because it challenges corporate profits and makes it difficult to repay the debts of borrowers.
Recent signals from other high ranking officials of European Central Bank and the statements by Mr.Praet suggest an increasing likelihood of the action at the next monetary policy meeting to be held on 22nd of January.
But the European Central Bank could delay an asset purchase programme to bring dissenting members of the policymaking governing council on board, or simply to allow more time to make preparations for what would be a huge and complex intervention in bond markets.
Political turmoil in Greece could delay asset purchases, because the European Central Bank might be reluctant to acquire debt that a new Greek government might not repay.
Mr Praet said there was a danger that businesses and consumers were becoming resigned to low growth and low inflation and so were not investing and spending. If so, that would be one of the symptoms of deflation – a broad-based decline in prices that causes people to delay purchases, company profits to sink and unemployment to rise.
European Central Bank policymakers are increasingly worried about “the very high risk that after seven years of crisis and very poor economic performance in the euro area, businesses and households are reducing their long-term growth expectations and adapting to weak growth and low inflation”, Mr Praet said.
“The big risk is that this growth pessimism perpetuates the current situation of weak growth and low inflation,” Mr Praet said.
Many economists as well as central bankers in other countries have expressed concern that the ECB has already waited too long to address very low inflation. Prices rose at an annual rate of 0.3 per cent in the euro zone during November, and some analysts expect inflation to have slowed further during December or even to have turned negative. An official estimate of December inflation will be released on January 7th.
An asset purchase programme in the euro zone would be more complicated than the quantitative easing used by the Federal Reserve to stimulate the US economy. The Fed bought large quantities of US Treasury securities, but the euro zone has no comparable asset. The ECB would have to buy bonds of individual euro zone countries.
Mr Praet said the ECB might buy government bonds in the secondary market in proportion to the size of each country’s outstanding debt. That approach could be controversial because it would tend to reward the most indebted countries, such as Greece and Italy.