September 19, 2020

The ECB and “the euro-dollar exchange matters”


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Christine Lagarde’s list of concerns begins with a strong euro, falling inflation and a fragile economy. It continues with the contagion figures, especially worrisome in several countries of the euro zone and does not lose sight of the latest decisions of the US Federal Reserve, which has already modified its inflation target. All this puts pressure on the ECB in the direction of new decisions, something that was not planned until the end of the year, but advancing events implies an also undesirable expense of ammunition, so a debate will take place at the meeting that the council will hold today in Frankfurt between those who are in favor of waiting and those who see the advantage of speeding up processes. The recent strength of the euro undermines exports from the euro zone just as signs of an economic rebound were beginning to emerge in some parts of the 19-member monetary bloc, which is not achieving homogeneity in the recovery.

ECB chief economist Philip Lane could not make it clearer: “the euro-dollar exchange matters”, while Commerzbank economist Ulrich Leuchtmann has warned against “the risk that the ECB wants to limit the appreciation of the euro”. For this reason, in addition to the new growth and inflation data offered by Lagarde, the attention of the markets will be focused on its language, on whether there are signs of reflection in it.

Central bankers don’t like surprises too much, so Lane cIt started a couple of weeks ago to open the door for the agency to “do more” to face the coronavirus crisis, if required. During his speech at Jackson Hole, and after the intervention of Jerome Powell. “We have made a lot of moves between March and June and we are ready to do more if necessary,” he said, insisting that despite low interest rates and even negative rates, central banks have a lot of capacity and ” they can do many things “, which, however,” does not mean that central banks can solve all problems. “

“Within our mandate we are not worried about acting and we can intensify as necessary”, he extended, confident, after confirming that the evolution observed during the summer “is more or less in line with projections.” “The recovery is taking place week by week,” he boasted, sending a message of calm, confidence and room for maneuver.

He knows better than anyone, however, that more ammunition will be needed in the coming months, The minutes of the last ECB meeting last July and They contemplate a brake on the recovery with the second wave of infections and the document includes the alert from the chief economist to his colleagues about the weak response of the labor market and the freezing of business investment. “Wait and see” was then the slogan, to which we only have to add some data from a deflationary context.

Christine Lagarde, however, will once again appear slightly optimistic today in light of the available data and will almost completely rule out the most pessimistic estimate of those put forward by the ECB, which would imply a fall of up to 12.6% in the economy in 2020, with just a 3.3% recovery in growth in 2021 and 3.8% in 2022. This scenario, which contemplates a second wave of infections with new confinement measures, has given way to the other two more favorable. Even the vice president of the ECB, Luis de Guindos, has shown that confidence, despite the fact that “a resurgence in the transmission rates of Covid-19 could lead the authorities to stop or reverse the reopening plans”, as is happening currently, and despite the economic uncertainty still linked to the medical solution, still non-existent. In the latest ECB forecasts released in June, the bank still counted on a spectacular 8.7% contraction this year.

“If the macroeconomy accelerates, possibly by the end of the year we will see some change” related to tolerance to higher levels of inflation that will be “half semantic, half quantitative,” says Pedro del Pozo, director of financial investments at Mutualidad de la Abogacía “The next steps will be politically delicate for the central bank”, appreciates Gilles Moëc, chief economist at AXA IM, “Christine Lagarde will recognize the appreciation of the euro as a headwind, but will not take immediate action”. Moëc points out that the “nuclear option” would be to play with the idea of ​​”lowering the rates applied to deposits again”, an alternative that he calls “tempting” to fight against the appreciation of the currency but that, “is not an option easy given the challenges facing the banking sector in the coming months. ” In addition, following the statements of Philip Lane, he considers that “the body clearly welcomes additional fiscal support” and concludes that “we believe that by the end of the year the ECB will extend the size and duration of the PEPP.”

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