Tags: ECB | Draghi | euro | recovery

ECB Chief Draghi: Euro's Strength May Hurt Recovery Efforts

Thursday, 07 Feb 2013 04:14 PM

 

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European Central Bank President Mario Draghi signaled policy makers are concerned that the euro’s strength will hamper their efforts to pull the economy out of recession.

“The exchange rate is not a policy target, but it is important for growth and price stability,” Draghi said at a press conference in Frankfurt Thursday after the ECB kept its benchmark rate at a record low of 0.75 percent. “We want to see if the appreciation is sustained, and if it alters our assessment of the risks to price stability.” The comments pushed the currency down more than a cent against the dollar.

While latest data show the 17-nation euro economy is starting to stabilize after the sovereign debt crisis drove it into recession last year, the euro’s gains could stymie a recovery before it has begun by curbing exports and pushing inflation too low. Draghi noted that the ECB will publish new economic projections next month and stressed that officials will “maintain our accommodative monetary stance.”

“This was a verbal intervention,” said Joerg Kraemer, chief economist at Commerzbank AG in Frankfurt. “Draghi reinforced multiple times that the ECB will keep up its accommodative policy stance and he indirectly suggested that the ECB may revise its inflation projections downward next month.”

Euro Drops

The euro fell as Draghi spoke, dropping to $1.3393 in late Frankfurt trading. It reached a 14-month high of $1.3711 this month and a three-year high against the yen.

“The market is reading the comments as generally downbeat,” said Adam Cole, head of global foreign-exchange strategy at Royal Bank of Canada in London. “That and the comments about the risks to inflation have pushed the euro down.”

The ECB, which aims to keep inflation just below 2 percent, currently forecasts the rate of annual consumer-price gains will drop to 1.4 percent next year from 1.6 percent this year. A stronger euro damps prices on imported goods.

Draghi said economic weakness will prevail only “in the early part” of this year and “later in 2013, economic activity should gradually recover, supported by our accommodative policy stance.” Still, risks to the economic outlook remain on the downside, he said.

Rate Outlook

“Draghi subtly talked down expectations of higher interest rates and the euro,” said Nick Kounis, head of macro research at ABN Amro in Amsterdam. Indeed, “euro strength, if sustained, could eventually trigger a rate cut,” he said.

The euro has climbed 11 percent on a trade-weighted basis since Draghi pledged on July 26 to do whatever is needed to preserve Europe’s monetary union, a comment that eased the turmoil raging through the region’s bond markets.

Fueling the euro’s rally, banks have started paying back the ECB’s emergency three-year loans early, shrinking its balance sheet just as the Federal Reserve and Bank of Japan expanded theirs. That’s prompted talk of a “currency war” between central banks trying to boost growth through lower exchange rates.

Draghi dismissed that speculation and said the euro’s value broadly reflects economic fundamentals. Still, he said if monetary policies produced “consequences on the exchange rate that do not reflect the G-20 consensus, we will have to discuss this.”

G-20 Meeting

Central bankers and finance ministers from the Group of 20 nations convene in Moscow next week.

“The euro is a little bit too strong,” Bernard Charles, chief executive officer at the French software maker Dassault Systemes SA, said in an interview with Bloomberg Television today. This will “have an effect this year” on the economy and its “capacity to export,” he said.

The Bank of England kept its target for bond purchases at 375 billion pounds ($589 billion) today and left the key rate at a record low of 0.5 percent.

“Draghi’s biggest challenge was to show his magic skills of verbal intervention and to talk down the euro exchange rate,” said Carsten Brzeski, an economist at ING Group in Brussels. “He succeeded. Adding the stronger euro to the downside risks for price stability opened the door for new policy action if the euro strengthens further and starts to weigh on the growth and inflation projections.”

© Copyright 2014 Bloomberg News. All rights reserved.

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