The ECB’s leap ahead of the Federal Reserve
The European Central Bank on Thursday became the most important developed-country monetary authority to start cutting interest rates in this cycle. President Christine Lagarde believes she’s addressing the risk of recession in the eurozone, but this decision creates others. The ECB cut its main policy rate by 0.25 percentage points, to 3.75%.
This is the first time in the central bank’s 20-plus-year history that it has reduced the policy rate without a crisis unfolding in the background. Rather than firefighting, Ms. Lagarde this time is estimating, based on the ECB’s internal economic models, that inflation will continue to decelerate.
The argument to start cutting rates now is that, as disinflation allegedly unfolds, monetary policy risks becoming tighter than intended because real interest rates rise as inflation slows. ECB officials speak of the risk that inflation could fall below target if they don’t ease now—code for a fear their policies could hurt growth. Is this really what’s happening in the eurozone? It’s not obvious inflation is on a glidepath back to the ECB’s 2% target.
Headline consumer-price inflation was 2.6% year-on-year in May, up from 2.4% in each of the previous two months, and 2.8% in all-important Germany. So-called core inflation excluding food and energy was 2.9% year-on-year in the eurozone in May, and 3.5% in Germany. The models that reassure the ECB rely on assumptions about inflation’s causes (and especially the role of expectations) that have been unreliable in recent years.
Ms. Lagarde is taking a risk that Federal Reserve Chairman Jerome Powell is resisting. He has said he won’t cut U.S.
Read more on livemint.com
