ECB View: Despite hawkish talk from Weidmann, exit is unlikely in the foreseeable future – Jens Weidmann President of the Bundesbank gave an interview to Augsburger Allgemeine, where he struck a characteristically hawkish tone. The key part of the text that grabbed the headlines was his assertion that ‘monetary policymakers will tighten the reins if the price outlook requires it…if inflation rates in the euro area rise, we will once again discuss the underlying monetary policy stance.’ He went on to say that ‘It is all the more important for the Governing Council of the ECB to scale back its very expansionary monetary policy in good time, as soon as it is foreseeable that we will achieve our target inflation rate. When that time comes, there can be no lack of determination, even if it increases the financing costs for highly indebted countries’. Mr Weidmann predicted that inflation in Germany would likely rise further to around 3% this year, which seems reasonable to us. Indeed, we expect inflation in the eurozone to touch around 2% this year.
It must be noted that there were significant caveats to the Bundesbank President’s language. For instance, he stressed that this year’s rise in inflation would prove to be temporary and he pointed to a number of transient influences. Indeed, he noted that ‘the VAT rate has gone back up to its previous level, which is feeding through into prices. On top of that, there is the price tag attached to carbon, which is also pushing up the inflation rate’. Nevertheless, his comments on tightening monetary policy are a return to the tone that he regularly adopted pre-pandemic and suggest that broad agreement in the Governing Council might become more difficult going forward.
Having said that, we judge that there is still an overwhelming majority in the Council for maintaining monetary stimulus. Indeed, Mr Weidmann’s message could not be more starkly different from other ECB officials. For instance, ECB President Lagarde was at pains to stress recently that the central bank would look through this year’s temporary rise in inflation, while inflation over the medium term was projected to undershoot the ECB’s price stability goal. In our view, the latter is the key point.
The ECB does not target inflation 6 months or one year ahead, but inflation 2-3 years ahead. Inflation is likely to collapse in 2022 and remain below the price stability goal in 2023. The ECB projects inflation at 1.1% in 2022 and 1.4% in 2023, with core inflation 0.1 percentage points lower in each year. This may even be optimistic given the ongoing significant slack that will remain in the economy. Against this background, we think asset purchases will continue for the foreseeable future, while rate hikes are unlikely as well over the next few years. (Nick Kounis)