Mario Draghi reinforced his dovish message on the European Central Bank’s retreat from ultra-loose monetary policy, saying interest rates would only rise at a slow pace from September next year.
As it called time on three years of quantitative easing during which it bought €2.4tn of bonds to prop up the economy, the ECB last week shifted its focus to a more conventional tool — interest rates.
The bank said last Thursday that it expected rates to remain at record lows “at least through the summer” of 2019, leading most investors to bet on early autumn for the first rate increase.
In a speech about that change in the message on rates at the bank’s annual Sintra conference on Tuesday, Mr Draghi said: “This enhanced forward guidance clearly signals that we will remain patient in determining the timing of the first rate rise and will take a gradual approach to adjusting policy thereafter.”
He signalled that markets had interpreted its message correctly, saying: “The path of very short-term interest rates that is implicit in the term structure of today’s money market interest rates broadly reflects these principles.”
The euro, already down on the day on the back of rising US-China trade tensions, fell further in response to Mr Draghi’s remarks, trading 0.8 per cent lower. Demand for government bonds increased, while the spread in 10-year US Treasury-Bund yields widened.
The single currency fell last week on the back of the bank’s dovish signal on interest rates, which came less than 24 hours after the Federal Reserve raised US borrowing costs. A weaker euro boosts trade by making exports more competitive and lifts consumption as imports become more expensive.
The ECB’s message on rates highlights the contrast between monetary policy in the US and the eurozone, and means borrowing costs are set to remain on hold longer than many investors had expected in the run-up to last week’s decision. Most investors had been betting on a June 2019 rise following strong signals from some ECB policymakers.
The bank’s benchmark main refinancing rate is zero and it continues to impose a rate of minus 0.4 per cent on a portion of bank’s deposits parked at the ECB. Borrowing costs are higher in the US, with the benchmark range for the federal funds rate now between 1.75 per cent and 2 per cent. US borrowing costs are set to rise by another percentage point before the ECB raises rates.
The ECB marked the end of an era when it decided to phase out net asset purchases by the end of the year. The programme is credited with reviving the euro area’s economy but is disliked by hawkish policymakers from northern member states such as Germany and the Netherlands.
However, the bank has emphasised that monetary policy in Europe will remain loose for some time. Along with keeping rates at record lows, the ECB is expected to reinvest the proceeds of maturing QE bonds throughout 2019. The Fed, in contrast, is now shrinking its balance sheet.
The QE programme began in March 2015 to stamp out the threat of a vicious bout of deflation.
Mr Draghi has said the ECB pressed ahead with plans to announce the end of its programme despite signs of a slowdown in growth, as there was “substantial” progress towards policymakers hitting their inflation target.
The bank announced last week that it would cut the size of its purchases from €30bn a month to €15bn in October, before an anticipated end to the programme in December.
Mr Draghi said it was “undeniable” that “uncertainty surrounding the outlook has increased”. However, there was “substantial” evidence to suggest that the “convergence” towards the bank’s projected path for inflation to hit its goal of below but close to 2 per cent had “held firm”.
Mr Draghi said the geopolitical risks from a trade war, higher oil prices and a greater threat of market turmoil all weighed on the outlook for growth. But wages across Europe were beginning to pick up at a faster pace, not only in Germany but in France too. A pick-up in wages would boost consumption and lead to higher inflation in the years ahead.
