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Luis de Guindos dismissed talk of an ECB interest rate cut as “premature” and warned of the “last mile” to bring inflation back to the rate setter’s 2% target The obstacles will be difficult to overcome.
The ECB’s deputy president and other members of the bank’s governing council have been grappling with the biggest price rise in a generation. Soaring inflation forced them to raise deposit rates an unprecedented 10 times in a row, reaching a record high of 4%.
De Guindos told the Financial Times that while price pressures were currently at two-year lows, the recent surge in oil prices to a 10-month high would “make our task more difficult.”
“We’re heading toward 2 percent,” de Guindos said. “That’s clear. But we have to monitor this very closely because the last mile is not easy. . . . The factors that could disrupt the deflationary process are powerful.”
In addition to oil, rapid wage growth, a weak euro and strong demand for services could also keep inflation high.
“Ultimately, it’s a very delicate balance,” he said days before euro zone inflation data was released on Friday, which showed inflation fell more than economists expected by 4.3% in the year to September. .
Most economists believe that the euro zone economy is likely to shrink in the third quarter, leading to a cooling of price pressures and making it unlikely that the European Central Bank will further raise interest rates.
However, a sharp sell-off in bond markets last week pushed government borrowing costs to levels not seen since Europe’s debt crisis more than a decade ago, as investors fretted over signals from central banks that interest rates will remain high for a long time before cutting them.
De Guindos’ comments suggest that euro zone interest rates will remain high for some time. De Guindos was a former executive at US bank Lehman Brothers when it collapsed in 2008 and later served as Spain’s economy minister.
The deputy president of the European Central Bank told the Financial Times that the “key” factor in determining the next step is the speed at which policy tightening is transmitted from banks and bond markets to consumers and businesses.
Changes in monetary policy typically take at least a year to have their full impact on inflation, meaning much of the impact of the ECB’s tightening is likely to linger. But he said the central bank may need to take further action on interest rates if policy transmission is rapid and inflation remains high.
“If the transmission is incomplete, then we should be a little more patient,” he said. “If transmission is closer to completion, then we should consider next steps to ensure inflation converges towards our target.”
Borrowing costs have soared and demand for loans has fallen – euro zone private sector loans grew 0.6% in August, the slowest annual growth in eight years. But he said there was “more uncertainty” about how quickly the impact would be transmitted to households and businesses, as many businesses locked in low interest rates for a long period of time to insulate themselves from tightening European Central Bank policy.
Another factor contributing to higher prices is increased government spending. Last week, Italy and France outlined larger-than-expected fiscal deficit plans that would limit fiscal deficits to 3% of output, a rule that has been suspended since the pandemic but will come back into effect next year.
“After four years without EU fiscal rules, governments may have become accustomed to a ‘whatever it takes’ approach to fiscal policy,” De Guindos said. “But that has to change. Tightening monetary policy while pursuing expansionary fiscal policy would be a very bad policy combination.”
A sharp rise in interest rates has caused property prices to fall across much of Europe, which De Guindos said was “our main concern about financial stability,” particularly the exposure of non-bank institutions such as mutual funds. real estate market.
Some ECB Governing Council members have called for a faster reduction of so-called “excess liquidity” in the banking system, which has fallen but remains high at about 3.7 trillion euros. These reserves create losses for central banks, which must pay huge interest payments to banks.
One way to deal with this problem is to increase the minimum reserves banks hold with the ECB, which do not charge any interest. However, De Guindos dismissed this view, saying: “My view is that we should conduct monetary policy based on price stability, not based on the profits and losses of central banks.”
He seemed more open to the idea of ending reinvestments early in the €1.7tn Pandemic Emergency Purchase Program (PEPP), which started buying after Covid-19 struck.
“Some of my colleagues on the Governing Council have been very vocal about the need to start the PEPP quantitative tightening process,” he said. While he said the idea had not yet been discussed, he added: “Sooner or later it will come.”
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