Draghi Says Deflation Danger Should Abate as Economy Revives

European Central Bank President Mario Draghi signaled that deflation risks in the euro region are easing for now after new forecasts showed that inflation will approach their target by the end of 2016.

“The news that has come out since the last monetary policy meeting are by and large on the positive side,” he told reporters in Frankfurt today after the central bank kept its main interest rate at 0.25 percent. He also indicated that money markets are under control at the moment, lessening the need for emergency liquidity measures.

Draghi is facing down the threat of deflation in an economy still recovering from a debt crisis that threatened to rip it apart less than two years ago. New ECB forecasts today underscore his view that the 18-nation bloc will escape a Japan-style period of falling prices as momentum in the economy improves.

“Given that the central bank did not cut its key rate today, it is likely to leave it on hold also in the coming months,” said Joerg Kraemer, chief economist at Commerzbank AG in Frankfurt. “A rate cut is off the table for now. Nevertheless, bouts of weak macro data or low monthly inflation figures can always lead to easing speculation in the context of forward guidance.”

‘Decisive Action’

Draghi has cut interest rates five times since he began his tenure in November 2011, and has added liquidity and pledges to backstop government bond markets. He said today that “we have taken and are still taking early decisive action on the monetary policy front.”

The euro strengthened to a two-month high against the dollar after Draghi’s remarks, trading at $1.3865 at 6:13 p.m. in Frankfurt. The yield on Germany’s 10-year bund rose four basis points, or 0.04 percentage point, to 1.65 percent.

“Incoming information confirms that the moderate recovery of the euro area economy is proceeding in line with our previous assessment,” adding that inflation should be around 1.7 percent by the final quarter of 2016, consistent with the ECB’s goal of keeping annual price gains below but close to 2 percent. That’s more than double the rate in February, when consumer prices rose 0.8 percent.

Officials have also stressed their determination to keep market rates low as part of their strategy to protect the economy. Today, Draghi said that policy makers didn’t see any need to fight “unwarranted tightening” in markets.

Releasing Liquidity

Governing Council members, including Germany’s Jens Weidmann, had supported releasing liquidity linked to the sterilization of crisis-period bond purchases as part of the Securities Markets Program. Draghi played down the suitability of such a move.

“Let me also add that benefits of this sterilization are relatively limited given short maturity of bonds currently present in the SMP portfolio,” he said. “The injection of the liquidity would last only for a relatively short period of time.”

When Draghi said last month that policy makers “need to acquire more information” to analyze the “complexity of the situation” in the euro-area economy, his watch list included four bullet points: growth data from the end of last year, the impact of turbulence in emerging markets, credit supply to companies and households, and the new economic forecasts.

Economic Growth

While the recovery remains fragile, data in the past four weeks have been encouraging. Gross domestic product in the bloc climbed 0.3 percent in the fourth quarter, more than economists predicted and bolstered by stronger expansions in Germany, France and the Netherlands. Italy also returned to growth.

Economic sentiment rose to the highest level in more than 2 1/2 years in February, and services and manufacturing expanded the most since June 2011.

The ECB estimates that the economy will expand 1.2 percent this year, up by 0.1 percentage point on its December forecast. Output should increase 1.8 percent by 2016, the quarterly projections said.

For inflation, price gains will average 1 percent this year, down from 1.1 percent previously, and will rise to 1.3 percent next year and an average of 1.5 percent in 2016.

“It should be stressed the projections are conditional on a number of technical assumptions, including unchanged exchange rates and declining oil prices,” Draghi said.

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