Draghi’s Lieutenants Spar as ECB Braces for Exit Strategy DebateBy and
Two of the top officials differ on plans to communicate change
ECB trying to form consensus for June interest-rate decision
Mario Draghi’s right-hand man and left-hand man may have some differences to sort out.
Peter Praet and Benoit Coeure, arguably the two most influential members of the European Central Bank after the president, have struck contrasting tones about how to communicate the institution’s intentions.
Both are wary of how markets will react to the ECB’s first step toward unwinding stimulus, but while Praet advocates caution and maintaining the easing bias enshrined in current guidance, Coeure has warned that moving too slowly could eventually lead to a bigger shock.
The differences are subtle but, as Draghi works to build a consensus ahead of the June 8 policy meeting, they go to the heart of the debate over unwinding a program that has dominated the euro area for years. Get it right and the currency bloc would make a smooth transition to normality; get it wrong and the market tumult would push that goal ever further into the future.
“ECB communications have always been more of a cacophony than a concerto,” said Richard Barwell, an economist at BNP Paribas in London. This “perfectly illustrates the split within the council. Coeure wants to prepare the market for an inevitable exit whilst Praet is busy pointing out that the conditions for exit have not been met.”
Draghi will have the opportunity to air his view in a speech in Madrid on Wednesday, and Praet is due to speak in Bulgaria. Draghi will also address European Parliament on Monday, May 29.
Praet is the ECB’s chief economist, in charge of crafting proposals for monetary policy. Coeure is responsible for market operations, including the 2.3 trillion-euro ($2.6 trillion) bond-buying program that could run out of eligible assets if it goes on too long. Their formal presentations set the tone for the Governing Council, made up of the six-member Executive Board and the 19 national central bank governors.
A steady stream of positive economic news both bolsters the ECB’s claim that its policies have been effective, as well as ratchets up pressure on the central bank to outline its exit strategy. The first issue up for debate in June is whether risks to the region’s economy can be still described as on the downside or are now “balanced.”
|“After so many years of accommodation, you cannot change the stance very abruptly.” |
-- Praet, May 15
|“Too much gradualism in monetary policy bears the risk of larger market adjustments when the decision is eventually taken.”|
-- Coeure, May 18
Several policy makers have acknowledged that the economy has improved and that political uncertainty in Europe has receded after the French election. Yet advocates for caution such as Praet and Draghi point to the absence of inflationary pressures and to the disconnect between euphoric sentiment indicators and merely encouraging hard data.
Most importantly, they warn that any change in the guidance will be perceived as the first step toward the exit for the ECB, and that a strong market response may tighten financial conditions and put economic progress in jeopardy.
“Underlying eurozone inflation remains low, the fear of premature tightening is high and the ECB knows that policy reversals are difficult to engineer smoothly,” said Christian Schulz, European economist at Citigroup. “For now, the ECB will focus on communicating accommodation rather than its exit strategy.”
Policy makers run the risk that their differences become a distraction. Their guidance currently states that the ECB intends to keep buying 60 billion euros of debt a month until at least the end of December. It also says interest rates will stay at “present or lower levels” until “well past” the end of quantitative easing.
Austrian governor Ewald Nowotny floated an idea earlier this year that rates could rise before the bond-buying ends. While Draghi tried to quickly quash the idea, it refuses to go away. Coeure said last week that if there was “strong evidence” of the negative deposit rate becoming a burden for banks, it could become an argument for raising rates earlier.
That discussion is only going to become more heated. Governing Council member Vitas Vasiliauskas told Bloomberg last week the ECB should use its June meeting to start building the case for an exit announcement in the fall. That’s also the preferred timing for Vice-President Vitor Constancio, who believes keeping monetary policy loose for longer is less risky than a premature withdrawal of stimulus. Coeure, on the other hand, is already warning about the risk of running the economy hot.
Draghi “can’t afford to lose the impatient hawks,” said Maxime Sbaihi, an economist at Bloomberg Intelligence in London. “The latter have been so far rather discreet, but that’s going to change soon.”
— With assistance by Jana Randow, and Fergal O'Brien