A monetary policy that affects almost 19 countries is no laughing matter. The Governing Council at ECB held a meeting on 22 July 2021 in which its monetary policy strategy was reviewed. This was something that made most of the banks, firms, and investors keep their eyes open. During the meeting, the council focused on two aspects, first, the implications of its strategic review, and second, their assessment of the economy and measures taken due to pandemics.
In its strategy review, the Governing Council acknowledged a symmetric inflation target of 2% over the medium term.
Inflation in May 2021 hiked the highest since 2018, mainly because of high fuel rates, to 2% from 1.6% in April, which is even higher than the ECB’s recently set inflation target.
Interest rates to remain unchanged.
ECB decided to keep steady interest rates at 0.00%, 0.25%, and -0.50% respectively. Due to this, the Governing Council decided to revise its forwarding guidance. This step was taken to demonstrate ECB’s commitment to maintaining the cooperative monetary policy stance to meet the set inflation rate.
The press release stated, “In support of its symmetric two-per cent inflation target and line with its monetary policy strategy, the Governing Council expects the key ECB interest rates to remain at their present or lower levels until it sees inflation reaching two-per cent well ahead of the end of its projection horizon and durably for the rest of the projection horizon, and it judges that realised progress in underlying inflation is sufficiently advanced to be consistent with inflation stabilising at two per cent over the medium term. This may also imply a transitory period in which inflation is moderately above target”.
The current ECB forecasts highlight a gradual decrease in the inflation rate of 1.9%, 1.5%, and 1.4% in 2021, 2022, and 2023.
Hike in Euro as compared to Dollar.
Soon after the decision, some unrest was seen in the market that caused a steep hike in the euro of 1.1804 against the dollar but settled back at 1.1777 at the end of the day.
Pandemic emergency purchase program (PEPP).
The Governing Council further adds that it continues to expect the purchases under the pandemic emergency purchase program (PEPP) over the current quarter at a significantly higher pace. Also, till the end of March 2022, ECB will continue to conduct net asset-buying with a total envelope of €1,850 billion until it decides the pandemic crisis phase is over.
ECB reinvestment policy.
About the reinvestment policies, it was decided that the Governing Council will continue to reinvest the principal payments from maturing securities purchased under the PEPP until at least the end of 2023. In any case, the future roll-off of the PEPP portfolio will be managed to avoid interference with the appropriate monetary policy stance.
Soon after the press release, Christine Lagarde, President of the ECB, held a press conference that comprehended the monetary policy review meeting.
Ms Lagarde informed that since a vast majority of people are getting vaccinated and lockdowns are easing in most areas, the economic condition in the euro area is getting on track. However, due to the newly spreading delta-variant, pandemic continues to give a hard time. Inflation continues to rise; although it seems temporary, inflation over the medium term remains subdued.
Ms President further said, “We need to preserve favourable financing conditions for all sectors of the economy over the pandemic period. This is essential for the current rebound to turn into a continuing expansion and offset the pandemic’s negative impact on inflation. Therefore, having confirmed our June assessment of financing conditions and the inflation outlook, we continue to expect purchases under the pandemic emergency purchase programme (PEPP) over the current quarter to be conducted at a significantly higher pace than during the first months of the year.”
A question raised: Does ECB see a risk that the emergency pandemic phase will last longer than expected, and is Delta correctly factored in their risk assessment? The president answered, “our projections from June actually included some assumption that certain containment and lockdown measures would be continued into the third quarter, and some of them will even remain during the fourth quarter of 2021. So, we are in the hands of those who will take all the necessary precautions to make sure that that contagion is not producing the negative economic effects that we have seen in the past. Vaccination is one of the components that we’ll look at carefully.”
Financial and monetary conditions of firms.
The financial conditions of most firms and households remain at a positive level. Yet growth and inflation depend upon favourable economic conditions.
Lagarde said, “Bank lending rates for firms and households remain historically low. Firms are still well funded as a result of their borrowing in the first wave of the pandemic, which in part explains why lending to firms has slowed. By contrast, lending to households is holding up.”
Meanwhile, since a significant number of firms and households took on more debt to overcome the pandemic crisis, the cost for firms of issuing equity is still high. Therefore, any worsening of the economy could threaten their financial health, which could trickle through to the quality of banks’ balance sheets. It remains essential to prevent balance sheet strains and tightening financing conditions from reinforcing each other.
In a nutshell, the interest rates are kept unchanged. The current increase in inflation seems to be temporary, yet the actual picture depends on the number of people getting vaccinated and the future of the pandemic. ECB’s revised guidelines and policy measures will assist the economy is moving towards the recovery side and eventually reaching the target inflation rate that is 2%