ECB’s Lagarde: Favourable Financing Conditions Are Our Compass

21 January 2021

By David Barwick – FRANKFURT (Econostream) – Favourable financing conditions are the compass according to which the European Central Bank is setting monetary policy to counter the impact of the pandemic on inflation, ECB President Christine Lagarde said Thursday.

At the press conference following the ECB’s policy meeting, Lagarde reconfirmed the macroeconomic outlook of the December 10 projections, spoke of ‘mixed developments’ and said that all options remained open depending on developments.

Already in the release accompanying the announcement of the Governing Council’s decisions, the ECB elevated the status of favourable financing conditions by including the statement that asset purchases would be conducted to preserve these during the pandemic.

‘If favourable financing conditions can be maintained with asset purchase flows that do not exhaust the envelope over the net purchase horizon of the PEPP, the envelope need not be used in full’, the release said. ‘Equally, the envelope can be recalibrated if required to maintain favourable financing conditions to help counter the negative pandemic shock to the path of inflation.’

The word ‘equally’ represented ‘a balancing act’, Lagarde explained subsequently. ‘Our compass, driving force is the favourable financing conditions, the anchor is countering the … downward impact of the pandemic on inflation.’

‘If the envelope is not sufficient, then we will recalibrate the entire envelope’, she made clear. Indeed, she said, ‘[w]e’re prepared to adjust all instruments. Nothing is off the table.’

According to Lagarde, the current environment is characterized by ‘the positive developments and the not-so-positive developments’.

The former included ongoing vaccinations (‘albeit with some difficulty’, she said), the orderly Brexit (the previous assumption had been no agreement, she observed), EU leaders’ agreement on the recovery fund (providing ‘some certainty’ about fiscal stimulus in the years ahead), manufacturing data showing the sector ‘clearly on a recovery path’ and the removal of uncertainty concerning the U.S. Senate elections in Georgia.

The less positive elements were the worsening public health situation (which she noted ‘poses some downside risks to the short-term economic outlook’), the probable decline in economic activity last quarter (which she noted would ‘have a bearing on 1Q’) and the fact that ‘inflation numbers remain extremely weak’.

With respect to the latter, Lagarde said that the figures would turn positive early this year in view of energy prices and the German VAT tax hike, but that domestic inflationary pressures would ‘remain subdued’.

Still, she said with respect to the ECB staff macroeconomic projections last revised on December 19, these ‘we consider as still broadly valid’. The numbers had already assumed lockdowns through the first quarter, ‘with vaccination progressing very gradually’, she explained.

At the same time, risks, though less pronounced, remained tilted to the downside, with uncertainty elevated, she said.

Exchange rates were being monitored ‘very carefully’, she said, ‘because we know that exchange rates have an impact on prices and clearly play a part in our inflation forecasts and what we can deliver with monetary policy.’

She repeated in this context without elaboration that ‘nothing is off the table.’