ECB walks ‘on eggshells’ as eurozone recovers

The European Central Bank will face a dilemma at its policy meeting on Thursday as the nascent recovery in the crisis-stricken euro area remains extremely vulnerable to setbacks.

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The ECB is not expected to unveil any policy changes when its policy-setting governing council convenes on Thursday morning.

But analysts believe central bank chief Mario Draghi will have to tread extremely carefully if the positive effects of the most recent measures are not to evaporate.

The ECB is “walking on eggshells,” said ING DiBa analyst Carsten Brzeski.

“The latest improvements in sentiment indicators should have ended the discussion on possible rate cuts at the ECB — at least for the time being,” the expert said.

However, “against the background of continued homemade structural problems and new external risks — such as Syria, oil, emerging markets — the ECB will have to stay on high alert,” he said.

Two months ago, Draghi ushered in what many ECB watchers saw as a revolution in communication policy by pledging to keep interest rates at their current historical lows — or even lower — for an extended period of time.

The ECB had previously cut its key refinancing rate to an all-time low of 0.50 percent in May.

Never before has the ECB issued such “forward guidance”, even if Draghi has faced tenacious questions ever since about exactly what an “extended period of time” actually means.

Financial markets have been spooked by speculation that the ECB could follow the United States Federal Reserve and start winding down its ultra-loose monetary policy, and that could strangle the still fragile shoots of recovery in the crisis-plagued euro area.

The prospect of a tightening of Fed policy has hit emerging markets in Asia and South America, as well as South Africa, in particular.

Marie Diron of EY Eurozone Forecast also believed the ECB will not announce any policy changes.

“The ECB will take stock of relatively encouraging data on the unfolding recovery in the eurozone that have been published recently,” she said.

“The recovery is still only tentative and it would be far too early to suggest that now is a good time to start thinking about removing some of the monetary stimulus currently in place in the eurozone.”

The central bank is also scheduled to published its latest updated economic forecasts at the press conference.

In June, the ECB said it was pencilling in a contraction in gross domestic product (GDP) of 0.6 percent in 2013, followed by growth of 1.1 percent for 2014.

Christian Schulz at Berenberg Bank suggested those forecasts could be upgraded slightly.

“Reflecting the recovery, ECB might revise its economic forecasts upwards. Second-quarter growth and the rising leading indicators signal slightly stronger growth than would be consistent with the ECB’s forecasts,” the analyst said.

“However, ECB staff will probably err on the cautious side given continued downside risks. We expect a modest upgrade of the GDP growth projection for this year from -0.6 percent to -0.5 percent and from 1.1 percent to 1.2 percent for 2014,” Schulz said.

And he added: “We do not expect the ECB to cut rates at this or any of the next meetings. If the recovery progresses well, the ECB might tighten policy in late 2014.”

Annalisa Piazza at Newedge Strategy said she also expected “the current accommodative policy stance to remain unchanged.”

And “the updated ECB staff projections are unlikely to present considerable changes compared with June,” she added.

Source: AFP

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