In this publication: Account of the ECB’s December meeting showed concerns about inflation and willingness to ease further. Inflation outlook has deteriorated since December pointing to intensifying downside risks. We continue to expect the ECB to step up monetary stimulus going forward.
Tone of the ECB discussion in December was dovish
The ECB published its account of the December Governing Council meeting on Thursday. At that meeting the Council decided to ease monetary policy further but by less than financial markets and analysts expected. Nevertheless, the tone of the discussion was dovish. Together with the deterioration in the inflation outlook since December, we think this supports our view that the ECB will step up its monetary stimulus in the coming months.
Five reasons why downside risks to inflation have increased
The minutes of the meeting showed that Governing Council members were concerned that ‘downside risks to the outlook for inflation continued to prevail, in spite of the December 2015 projections having already incorporated financial market expectations of further measures’. This is a signal that officials were not confident that what was priced in by markets (which was already more than they in fact ended up doing) would be enough to meet the price stability goal. The account of the meeting then lists no less than five arguments of why risks to inflation were to the downside. First, recent disappointing inflation outcomes had not yet been incorporated into the projections. Second, the possibility of lower oil prices. Third, models based on spare capacity pointed to downside risks. Fourth, market-based inflation expectations pointed to an inflation rate of only 1% in 2017. Finally, the risk of long-term inflation expectations becoming dislodged was greater the longer actual inflation remained below the goal.
Risks have intensified since December
Most of the risks mentioned above have actually intensified since December. Oil prices have fallen sharply, while the euro has strengthened (see chart). As noted in our daily of yesterday, inflation is now set to fall back into negative territory. Inflation expectations have dropped. There is also is a risk that eurozone GDP will be lower than generally expected in Q4 given recent hard data.
The ECB will likely step up stimulus
At the December meeting, some members were already in favour of taking bigger steps than what was announced, and also hinted that the deposit rate could go down further or the pace of QE could be increased. All this strengthens our conviction that the ECB will further step up monetary stimulus going forward, with March being the most likely timing.