Exclusive: More Pronounced Euro Weakness a Headache for ECB, Econostream Understands
28 April 2022
- ECB insider: Higher depreciation of euro can affect HICP projection at end of horizon
- ECB insider: Agree with Klaas Knot that we should counter continued euro depreciation
- ECB insider: ‘Sudden [exchange rate] shifts need to be taken into account’
By David Barwick – FRANKFURT (Econostream) – The pronounced further weakening of the euro versus the dollar adds to the woes of the European Central Bank and based on comments by two ECB insiders is likely to increase pressure on the Eurotower to react.
The common currency hit a five-year low yesterday after depreciating almost 5% just since the month of April began. Much of that weakening has taken place in the past week alone, representing a pace of change with which the ECB is normally uncomfortable. On April 22, the euro stood at 1.0835 to the US dollar, essentially back at the level of 1.0865 seen on March 8, but is now at a mere 1.0498.
Already six weeks ago, Governing Council member and De Nederlandsche Bank Governor Klaas Knot broke with central banking tradition by expressing concern about the exchange rate, saying that whilst the ECB cannot do much to influence energy prices, ‘let us at least make sure that such problems are not aggravated by a continued depreciation of the euro.’
Just before the new bout of exchange rate weakness, Econostream spoke to two ECB insiders about Knot’s undisguised call for monetary authorities not to let the euro weaken too much.
To be sure, one noted that the euro area was protected from depreciation to the extent that typical European exports outside the region are ‘more about quality’ and less about ‘commodities or base metals or other items with a huge price sensitivity.’
‘But it can make a difference’, he said. ‘It can make a difference, especially in a situation when we are talking about 2024, when, if the depreciation will be higher, it can add a few tenths of a percent [to inflation], and the difference is whether we are at 2% or 2.5% [HICP] at the end our forecast horizon.’
‘It’s not negligible at this stage, and that is why I agree with Klaas Knot’, he added. The ECB should not be setting any exchange rate targets, he said, ‘but we will have to take it into account when deciding about interest rates.’
The other person was somewhat less concerned, not having seen ‘any huge fluctuation which would make us worried.’ As noted, however, this was shortly before the euro’s notably more precipitous descent that started a week ago.
Indeed, referring to the temporary weakening of the common currency on the heels of the Russian invasion of Ukraine on February 24, this person stated that ‘the euro’s first reaction was a bit worrisome, at least if it had continued, but if you just have the usual volatility, then there is nothing to worry about. But sudden shifts need to be taken into account.’
It is precisely a sudden shift going beyond the usual volatility that is facing the ECB now, and at the arguably worst possible moment, given the new heights to which natural gas prices have just climbed.
With the US Federal Reserve on the cusp of accelerating its own monetary tightening, pressure on the ECB not to stand by too idly is bound to mount, not just outside the Eurotower, but within it as well.