Exclusive: ECB’s Kazāks: May Not Need to Hike Further Unless Something Happens, But Uncertainty High

11 October 2023

By David Barwick – MARRAKECH, Morocco (Econostream) – The European Central Bank may not need to increase borrowing costs further, even if the very high uncertainty now prevailing makes it impossible to say yet for sure that no more rate hikes will be needed, ECB Governing Council member Mārtiņš Kazāks said Wednesday.

In an interview on the margins of the annual meetings of the International Monetary Fund and World Bank, Kazāks, who heads Latvijas Banka, said, ‘For the time being, I’m quite comfortable, given the macroeconomic situation and inflationary dynamic, that the current level of rates is appropriate. Unless something happens, we may not need to hike further, but we should always leave the door open for further hikes, given high uncertainty.’

Interest rates at their current level were ‘quite likely to bring us back to 2% inflation in the second half of 2025’, making duration the key issue for the time being, he said. ‘But given the high uncertainty, nobody can say it was the last hike. If there is no surprise, then we may stick with the current level.’

Core inflation could prove sticky and thus needed to be closely watched, he said. That was the ‘main reason why we can’t say for sure we’re done.’

As before, Kazāks dismissed the idea of rate cuts anytime soon. ‘Every day brings us more certainty about past risks, but can also open up new risks’, he said. ‘Multiple scenarios point in both directions, but the most likely scenario at the moment – the baseline scenario - is that of a soft landing, and if we stick with this, then the idea that rate cuts would follow quickly isn’t consistent.’

Rate cuts would become appropriate when inflation prospects from a year and a half in the future onwards were ‘consistently undershooting 2%’, he said. ‘The outlook for core inflation would have to be consistent with this to ensure headline inflation isn’t pulled back up.’

‘We should now take a pause and see how the hikes that we have already done will transmit through the pipeline’, he said.

Kazāks observed that there were ‘first signs’ of sagging profit margins, and underscored the recent retreat of headline inflation, which ‘has come down quite a bit as well.’

‘I’m very happy that the latest inflation reading shows a relatively sharp decrease due to base effects’, he said. ‘Many of the underlying measures of inflation are coming down, and that is very encouraging.’

The latest outbreak of violence in the Middle East ‘may have implications for energy prices and related issues’, he said, but developments there for now ‘have not pushed me in the direction of an immediate need to do anything’ in terms of monetary policy.

The ECB should be willing to change any of its monetary policy tools whose setting has become inappropriate to circumstances, including the pandemic emergency purchase programme (PEPP), he said.

 ‘Every instrument always comes with due notice', he said. 'When we don’t see its use as appropriate anymore, then we can change it. And that goes for the PEPP.’

‘So I don’t subscribe to the view that terminating PEPP reinvestments earlier would be a blow to ECB credibility’, he said. ‘The ECB has to explain itself and its reaction function carefully, but that doesn’t mean that we stick to our actions for unnecessarily long.’

No instrument was a ‘sacred cow’, he said. ‘You change it when it becomes necessary. If we can explain why, then it’s a gain in credibility.’

Focussing on the balance sheet at the current juncture was nothing more than ‘the normal sequence of things’, he said.

To be sure, he said, were market tensions high, then policymakers might not want to take any steps that would needlessly stoke volatility. ‘There is some rise in market volatility, but it is not such as to cause a major increase in concerns about stability’, he said.

As for active sales of assets on the ECB’s balance sheet, these were naturally also ‘part of the story at some point’, he said. The logical approach would be to tie this into the discussion of the ECB’s operational framework, he said.

‘If we have time, then discussing further steps in October is an opportunity that should not be missed’, he said, though he suggested that October would be more an occasion for discussion rather than final decisions or actual policy changes.

In other comments, Kazāks said that developments since the ECB’s last macroeconomic projection exercise were ‘still roughly in line’ with these, and that ‘[o]verall, we see that NPLs and financial stability issues are not problematic at the moment.’