Following its discussion held in London yesterday, the majority recommendation of the the ECB Shadow Council is that the ECB Governing Council should lower its key policy rate by a full percentage point to 2.25 percent at its next policy meeting on December 4. As well, the Shadow Council unanimously urges the Governing Council to counter any notion that might exist in the general public that there was a danger of monetary policy "running out of ammunition" and becoming powerless. To that end, it calls upon the ECB to lay out a "roadmap" of the options that would be potentially available for it to provide further stimulus, in the event that more monetary stimulus was still required at a time when short term interest rates had approached the zero lower bound. Shadow Council members welcome plans by governments to deploy fiscal stimulus also at a time when the monetary transmission mechanism channel was not working properly.
The recommendation of the Shadow Council to lower the policy rate very aggressively comes after the ECB cut interest rates by half a percentage point to 3.25 percent on November 6 (the previous discussion of the Shadow Council, a month earlier, had resulted in a majority vote recommending a 100bp rate cut). The specific recommendation of a cut by 100 basis points was taken with eight votes in favour. Four members voted for an even bigger cut of 125 basis points, while the three remaining members preferred a recommendation of a half point cut. Behind the recommendation s was concern about a further sharp drop in growth prospects and a consensus that inflation was more likely to undershoot, than to overshoot the target.
The consensus growth forecast of the Shadow Council was revised down further to minus 0.7 percent in 2009. Individual forecast range from minus 0.5 to minus 1.5 percent. For 2010 only a gradual improvement is expected. Members expect inflation to average clearly below two percent in 2009 and 2010. Despite the revision downwards in projected activity, the Shadow Council saw the risks to their projections as being strongly tilted still to the downside. Few members had much confidence when a recovery might get underway.
|2008||3.4 (3.4)||1.0 (1.0)|
|2009||1.6 (1.9)||-0.7 (-0.4)|
|2010||1.7 (1.8)||1.0 (1.0)|
Contributors:. E. Bartsch; J. Cailloux; J. Callow; M. Diron; S. King; T. Mayer; E. Nielsen; J.-M. Six
Contributors:. M. Annunziata, E. Bartsch; J. Cailloux; J. Callow; M. Diron; S. King; T. Mayer; E. Nielsen Assumptions: Forecaster assumed on average that the ECB would cut its key rate to 2.25 percent within the next three months and below two percent within six months.
A big concern expressed during yesterday's Shadow Council debate was that banks would restrict the availability of credit to the private sector, due to their own funding problems and their need to reduce the ratio of assets to capital or deposits. The consensus was, that such a development was almost inevitable, even if the data did not show much of it as yet. There is also clear evidence of a steep decline in exports.
A strong majority was of the opinion that rates would eventually need to decline by more than one percentage point , since inflation was set to recede fast while the business cycle was collapsing. According to this majority, a large cut already at the next meeting was warranted, in order to not waste any time. Furthermore, it was argued that market participants had already perceived the ECB to be reacting too slowly to rapidly changing circumstances, and thereby a more moderate pace of easing could erode confidence in the ECB 's ability to influence the business cycle. .
Several members said that they expected the recession facing the euro area to be deeper than any in living memory. Therefore, many members felt that there was a danger that even reducing rates to zero or close to zero could not be enough to revive the economy and prevent inflation from strongly undershooting the target - even more so, as there was a general perception that the transmission mechanism from monetary policy to the real economy was impaired by the problems of the banking sector.
Marco Annunziata, Chief Economist of Unicredit, joined the ECB Shadow Council to replace Gernot Nerb, whose term expired.
|Members' individual votes for September 4 (and bias*):|
|Jose Alzola||The Observatory Group||cut 0.5 (down)|
|Marco Annunziata||cut 1.25; (down)|
|Elga Bartsch||cut 0.5 (down)|
|Agnes Benassy-Quere||CEPII||cut 1.25 (down)|
|Jacques Cailloux||cut 1.0 (down)|
|Julian Callow||Barclays Capital||cut 1.25; (down)|
|Giancarlo Corsetti||Europ. Univ. Institute||cut 1.0 (down)|
|Marie Diron||Oxford Economics||cut 0.5 (down)|
|Daniel Gros||CEPS||cut 1.0 (down)|
|Stephen King||cut 1.0 (down)|
|Thomas Mayer||cut 1.0 (down)|
|Erik Nielsen||Goldman Sachs||cut 1.0 (down)|
|Jean-Michel Six||Standard & Poor's||cut 1.0 (down)|
|Angel Ubide||Tudor||cut 1.25 (down)|
|Charles Wyplosz||Grad. Institute. Geneva||cut 1.0 (down)|
* Lead question regarding the bias: Upon current information, should rates be lower or higher in about three months time?
London, November 28, 2008
The ECB Shadow Council was founded in 2002 upon an initiative of Handelsblatt, the German business and financial daily. It is an unofficial panel, independent of the ECB/Eurosystem, and comprising fifteen prominent European economist?s drawn from academia, financial institutions, consultancies and research institutes.
The Shadow Council usually convenes by telephone conference on a monthly basis (though in November it holds a physical meeting). Its discussions take place a week before the monthly official ECB Governing Council "policy" meetings, and are intended to formulate an opinion as to what monetary policy decision its members believe that the ECB's Governing Council ought to undertake, both at its forthcoming meeting and also on a three month horizon. Shadow Council members are encouraged to submit their own economic projections for euro area activity and inflation on a monthly basis, which constitutes the panel's forecast consensus as published each month.
The Shadow Council's discussions and recommendations differ from surveys of economists concerning the outlook for ECB interest rates because the Shadow Council recommendation expresses the majority view of its' members opinion about what the ECB should do, rather than what they forecast it to do (and hence the "normative" views as expressed by Shadow Council members on what they consider the ECB ought to do can and often do differ from what they might say they expect the ECB to do). This "normative perspective can, however, give an early indication of shifts in the balance of opinion in the expert community, as can be seen by comparing the historic recommendations of the Shadow Council against subsequent decisions undertaken by the ECB Governing Council.
Members of the Shadow Council base their recommendations on the ECB's objectives as defined under the EU Treaty, though Shadow Council members do not necessarily adopt exactly the ECB's specific interpretation of its mandate: most Shadow Council members consider that a medium term inflation objective of two percent with a symmetric tolerance band around it would be clearer, more realistic and more appropriate than the definition adopted by the Governing Council, which defines price stability as an inflation rate of "below, but close to, two percent", in the medium term.
Some Quotes by Individual Members
Stephen King : "As interest rates decline, the ECB must emphasise that monetary policy doesn't end when rates drop to zero. To inspire confidence, the ECB should be prepared at least to discuss unconventional measures and show how they might be made to work in a eurozone context."
"The ECB should reassure market participants that it is far from running out of ammunitions by laying out a detailed plan about potential unconventional measures it could use should the tail risks of a much more adverse macro economic scenario materialise"