ECB downgrades inflation outlook, but is more confident it’s on the right path - AmpGFX

The ECB had two less dovish elements; it removed the bias to cut rates, and it moved from a downside bias to a balanced outlook for growth, according to analysts at Amplifying Global FX Capital.

Key Quotes

‘It also included a more dovish element; it lowered its inflation forecasts, reducing the chances that it will normalize policy very much within the next two years.”

“On balance, the market reacted more to the dovish element, although the fall in Eurozone rates and the EUR were relatively modest.”

“The less dovish elements help account for much of the rebound in the EUR over recent weeks and were more anticipated.  The cut in the inflation outlook was rumoured in recent days and did cause a brief dip in the EUR on Tuesday.  It has probably helped cap the EUR in the face of a weaker USD recently.”

“The ECB introductory statement continued to say that it expects rates to “remain at present levels for an extended period of time, and well past the horizon of our net asset purchases.”  But it removed the “or lower” from previous 27 April statement.”

“Draghi said this shift in guidance was linked to an assessment that the “tail risks” for its inflation forecast had been removed and the risk of deflation had “disappeared”.”

“This is probably of little concern to the market that has been looking for evidence that rates might rise sooner, and not anticipating any further cut in rates.  As such, this less dovish element probably had little impact on the market.”

“The ECB removed the remaining view that there were greater downside risks to the economic recovery.  In April, it said, “downside risks have further diminished”.  Today it said, “the risks to the growth outlook are now broadly balanced.”

“However, it said, “At the same time, the economic expansion has yet to translate into stronger inflation dynamics.”  And it restated that, “a very substantial degree of monetary accommodation is still needed”.”

“Furthermore, it restated its preparedness to “increase our asset purchase programme in terms of size and/or duration”, if the outlook deteriorates.”

“The growth forecasts were upgraded: In 2017 from 1.8% to 1.9%, in 2018 from 1.7% to 1.8%, and in 2019 from 1.6% to 1.7%.  This is well above the potential growth rate of around 1%.”

“The headline inflation forecast was downgraded: in 2017 from 1.7% to 1.5%, in 2018 from 1.6% to 1.3%, and in 2019 from 1.7% to 1.6%.”

“The underlying inflation forecast was slightly downgraded: unchanged in 2017 at 1.1%, in 2018 from 1.5% to 1.4%, and in 2019 from 1.8% to 1.7%.  This is still below, but getting near the just below 2% ECB inflation target at the end of its forecast horizon.”

“Draghi emphasized that while the ECB was more confident on the outlook for growth and the path for inflation to converge to its target, it expected underlying inflation to rise only very gradually.”

“Draghi said that the Governing Council did not discuss normalization and offered no indication that this might be discussed at the September meeting; where most market participates expect to hear plans for the Asset Purchases beyond the current program that ends in December.”