ECB’s Panetta: Once Rates No Longer Negative, Adjustments to Depend on Developments

1 July 2022

By David Barwick – FRANKFURT (Econostream) – Once the European Central Bank has taken official borrowing costs out of negative territory, any further adjustments will hinge on economic and inflation developments, ECB Executive Board member Fabio Panetta said Friday.

In a video speech for an event of EU Parliament, Panetta said that inflation was not expected to be elevated in the years 2022 through 2024 because of excess demand in the euro area, where consumption and investment remained ‘even further away from their pre-pandemic trend.’

Wages are only up moderately and real incomes have been ‘severely hit’ by higher prices for imported goods, he said, which along with the war is putting further downward pressure on consumption and confidence.

‘Leading indicators of consumer confidence and business sentiment are deteriorating, and the growth outlook is being progressively revised downwards’, he said. ‘Our projections now foresee activity remaining below its pre-pandemic trend throughout our projection horizon.’

By having flagged rate hikes in July and September – Panetta made no reference to any hike of more than 25 basis points – the ECB has already triggered a ‘material increase’ in market rates, he said, and banks intend to tighten credit conditions ‘markedly’ further in the next quarters.

‘Given the prevailing uncertainty, normalisation should remain gradual’, he said. ‘For now, our aim should be to avoid high near-term imported inflation becoming entrenched by feeding into higher inflation expectations.’

This goal implies ending net asset purchases and negative rates, he said.

‘But beyond this, further adjustments to our monetary policy stance will depend on the evolution of the outlook for inflation and the economy’, he continued.

Expectations are ‘around 2%’, with wage increases moderate, and the ECB is watching relevant trends, he said.

‘And we need to see how the economy reacts to the tightening in financing conditions and the deterioration of the global and domestic economic outlook’, he said.

The ECB must also ensure the singleness of monetary policy, he said.

‘Action to prevent fragmentation is therefore not at odds with the normalisation of monetary policy’, he said. ‘On the contrary, it is a necessary condition for us to have the freedom to adjust our stance as needed to bring inflation back to 2%.’

Not preventing fragmentation could lead to undesirably tight financing conditions in ‘vulnerable’ countries, but their more fiscally stable counterparts would be subject to capital inflows that would undesirably loosen financing conditions and stoke inflation, he said.

‘And this would trigger even greater divergence and undesirable outcomes that would go against our monetary policy objective’, he argued. ‘So acting against fragmentation, countering any excessive reaction by market yields to the normalisation of our monetary policy, is not just consistent with our mandate; it is necessary for us to fulfil that mandate. And it is in the interest of all euro area countries.’

Failing to act would also ‘inevitably be reflected in a weaker exchange rate’, he noted.

Therefore, maturing securities acquired under the pandemic emergency purchase programme (PEPP) will be flexibly reinvested, and work on a new anti-fragmentation tool is being accelerated, he said