Draghi Softens Tone on Inflation, Calls for Growth Compact

European Central Bank President Mario Draghi
European Central Bank President Mario Draghi. Photographer: Hannelore Foerster/Bloomberg

European Central Bank President Mario Draghi softened his tone on the inflation outlook and called for a “growth compact” as the sovereign debt crisis weighs on the euro-area economy.

While inflation will remain above the ECB’s 2 percent limit this year, it will slow in 2013 and “underlying price pressures should remain modest,” Draghi told lawmakers in Brussels today. That’s a contrast to the “upside risks” to inflation he warned of three weeks ago. Risks to the economic outlook remain on the downside, Draghi said.

Since the ECB lifted its 2012 inflation forecast to 2.4 percent in March, the debt crisis has worsened, threatening to derail a fragile economic recovery. Spending cuts across the region are already damping growth, prompting a backlash against the German-led austerity drive in countries such as France.

Draghi, whose call for a fiscal compact to toughen budget rules was adopted by European Union leaders, today urged them to take similar steps to foster growth.

“We’ve had a fiscal compact,” he said. “What is most present in my mind now is to have a growth compact. I think that’s what we have to have.” He didn’t elaborate.

The comments were welcomed by French Socialist presidential candidate Francois Hollande. “He’s speaking Hollande’s language,” said Michael Sapin, an aide to Hollande.

High Uncertainty

The economy of the 17 euro nations shrank 0.3 percent in the fourth quarter of 2011 and the ECB predicts a contraction of 0.1 percent for this year as a whole.

While “available indicators for the first quarter of 2012 broadly confirm a stabilization in economic activity at a low level,” uncertainty remains “very, very high,” Draghi said.

“Growth should be supported by foreign demand, the very low short-term interest rates as well as our non-standard measures,” he said. “At the same time, downside risks relate in particular to a renewed intensification of tensions in euro-area sovereign debt markets and their potential spillover to the real economy.”

The ECB has injected more than 1 trillion euros ($1.3 trillion) of cheap cash into the banking system for three years to avert a credit crunch. While debt markets rallied after the tenders in December and February as banks used some of the liquidity to buy government bonds, that effect is waning.

Spanish 10-year yields breached 6 percent last week and the cost of insuring the country’s bonds against default advanced to a record.

German Stance

Germany sees reducing debt along with measures to bolster economic growth as key to winning back financial-market confidence damaged during the debt crisis, Deputy Finance Minister Thomas Steffen said today.

Also today, the European Commission proposed a 6.8 percent increase in the EU budget to 138 billion euros in 2013, promising growth-oriented investments to turn around the economy.

For his part, Draghi said any talk of an exit from the ECB’s stimulus measures is “premature given the current economic situation.”

While the bank’s bond-purchase program has been inactive for six weeks, “we don’t want to pre-commit” on whether it will be canceled altogether or resumed, he said. “We abstain from making announcements in either direction now.”

Draghi said the ECB’s monetary policy is “quite accommodative” and not too tight.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE