ECB Insight: Elderson Suggests Asset Purchases Are an Obstacle to Policy Normalisation

24 March 2022

By David Barwick – FRANKFURT (Econostream) – That European Central Bank Executive Board member Frank Elderson would avoid staking out controversial positions in his speech Thursday was probably inevitable, but in some subtle respects his messaging appeared consistent with the at least mildly hawkish stance we expected a priori.

This was the first time since joining the ECB some 15 months ago that Elderson spoke at significant length publicly on monetary policy. His speeches up to now – of which there have been noticeably fewer than for any other ECB Board member except Vice President Luis de Guindos, who prefers other forms of communication – have usually focussed on climate-related issues.

Elderson, whose career included many years at that bastion of monetarism, the Dutch National Bank, appeared at first to endorse the go-slow approach to normalisation championed by his Board colleague Fabio Panetta, among others.

‘It is a well-established practice in monetary policy that in times of uncertainty prudent policy calls for gradualism’, he said. ‘This holds particularly true when we approach potential turning points in the monetary policy cycle.’

We would leave it to others to dispute to what extent gradualism automatically reigns supreme whenever there is uncertainty, which nowadays is most of the time, and observe that Elderson seemed to subtly leave open via the word ‘potential’ whether euro area monetary policy truly is nearing an inflection point.

Most observers would probably feel it is, and Elderson himself noted the ECB’s intention of ending net asset purchases under the pandemic emergency purchase programme (PEPP) this month and, contingent on data, under the asset purchase programme (APP) in 3Q.

‘This strengthens our policy optionality by removing obstacles for potential policy rate normalisation beyond the horizon of our asset purchases’, he said. This sentence stands out as hawkish, a fact that is easier to see in light of comments made by Vice President de Guindos in a newspaper interview published Sunday.

‘The most important decision taken during our meeting [on March 9 and 10] was to delink the potential interest rate hikes from the asset purchase programme; interest rates will not need to be increased automatically after the end of net asset purchases’, de Guindos said. ‘In this way we are keeping all our options open to respond flexibly to the data.’

In other words, de Guindos interprets open options post-APP as meaning not necessarily hiking rates, while Elderson sees optionality as having cleared the ‘obstacles’ of asset purchases from the path to higher borrowing costs.

Elderson returned to the theme of gradualism, assuring in boilerplate language that rate hikes, if any, would only come ‘some time after the end of our net asset purchases and will be gradual and based on the incoming data.’

Still, he made higher borrowing costs sound a touch more definite than previously, noting that maturing assets would be reinvested ‘past the date on which we start raising the key ECB interest rates.’

And he left no doubt that inflation was a concern, conceding readily that price pressures were being seen across a broader base. Even if oil prices stopped climbing, inflation would be above the ECB’s 2% price stability target ‘well into 2023’, he said.

That may be mathematically so, but it is a point that Europe’s central bankers haven’t been stressing. In contrast, Elderson refrained from echoing the relatively frequently heard suggestion that the hit to growth would ultimately mitigate medium-term inflation pressures.

As for a wage-price spiral, ‘we are not yet observing stronger second-round effects than projected’, he said, implying that second-round effects are being seen at least to some degree. Generally, monetary authorities have been consistently identifying second-round effects as a key risk, without however suggesting any materialisation.

Indeed, Banco de Portugal Governor Mario Centeno on March 11 said: ‘Labour markets in the euro area show no signs of second-round effects, in fact the ECB's wage forecasts have been successively revised downwards.’ He repeated this on March 16.

And even super-hawk Dutch National Bank Governor Klaas Knot said on March 17: ‘For the time being, wage growth is relatively modest, and we are not yet seeing these second-round effects.’

But Elderson implied again that such effects were visible already, observing that ‘some ingredients for potential stronger effects are in place.’

On Econostream’s ranking of the members of the Governing Council in terms of their hawkishness/dovishness, Elderson comes in at 0.75, indicating moderate hawkishness. Based on his most substantive public contribution to the monetary policy discussion to date, we feel comfortable leaving him there.