What to watch for in Thursday’s governing council meeting

6 hours ago by: Claire Jones, Frankfurt

The European Central Bank risks opening up old divisions on Thursday governing council meeting, as its top officials ponder the consequences of Emmanuel Macron’s performance in France’s presidential election and the increasing health of the eurozone economy.

Mr Macron’s success in winning the first round of the French contest last week was welcome news to the ECB’s governing council, which was aghast at the prospect of a second round featuring the far-right Marine Le Pen and left-winger Jean-Luc Mélenchon.

But a win for Mr Macron in the run-off May 7 will embolden the council’s hawks — led by German officials — to call on Mario Draghi, ECB president, and Peter Praet, chief economist, to start talking seriously about reining in the bank’s record-breaking monetary stimulus.

Opening statement

Mr Draghi will meet the press at 13.30 UK time on Thursday to present the council’s views on how to shore up the eurozone’ recovery. A big question is to what degree the council thinks a win for Mr Macron will change the economic outlook.

At stake is whether Mr Draghi now adjusts the customary reference in his opening statement about risks tilted to the downside and declares instead that such risks are now “balanced”.

Until now the council has resisted dropping this note of caution despite signs that the recovery is becoming stronger and broader. It remains committed to low rates and could even expand its quantitative easing programme from the current level of €60bn of purchases each month should those risks to the recovery become reality.

But the biggest political risk — a win for Ms Le Pen, who has talked of taking France out of euro — now looks unlikely, given Mr Macron’s strength in opinion polls ahead of the May 7 vote.

If Mr Draghi did indeed ditch his talk of the downside, it would mark an important step towards a real debate on tapering, or phasing out, QE. The €60bn a month purchases are scheduled to continue throughout this year, after having been reduced from the previous level of €80bn. But the governing council could start talking in the summer about whether to rein them in further from the start of 2018.

Economic optimism

The narrative on the global economy has changed since the turn of the year. Talk of a period of secular stagnation characterised by years of anaemic growth has been superseded by cautious optimism.

Growth has exceeded expectations despite the political uncertainty — especially in the eurozone. Surveys of business confidence are at multi-year highs, unemployment is falling — though it remains much too high for the region’s youth and in parts of the region’s periphery — and inflation has picked up.

Analysts and markets will be watching carefully to see the extent to which such positive developments are reflected in the statement and Mr Draghi’s responses to journalists’ questions. They will be searching for clues as to whether greater optimism will lead the ECB to adopt a tighter stance in June.

Headline inflation has picked up and is expected to come in at 1.8 per cent this month — just shy of the ECB’s target of below but close to 2 per cent. But what really matters to the central bank is what happens to inflation in the medium term.

Strip out the impact of higher oil prices and a rise in food prices triggered by a poor harvest, and underlying inflation remains weak. Wages are also rising at a slower pace than the ECB would like — notably in Germany, the region’s largest and strongest economy.

Mr Draghi has made clear that a rise in underlying inflation is a necessary condition for any discussion on tapering. He can expect to be quizzed on whether the recovery is heading towards longer-term price pressures of the kind he seeks.

Post-meeting chatter

The big picture concerning geopolitical risk may not be fully clear for another week and a half.

The timing of the ECB’s meeting — between the two rounds of the French elections — is unfortunate for the council’s hawks. With Mr Macron and Ms Le Pen still battling it out, dropping all of the doom and gloom from the council’s opening statement may, at this stage, seem premature.

As a result hawks may avoid pushing too hard at Thursday’s meeting in favour of resuming their campaign — in the press and elsewhere — after France’s day of reckoning on May 7.