ECB Shadow Council says rates are not appropriate

At the regular meeting of the ECB Shadow Council held on Thursday 28 May, there was a two-thirds majority in favour of lowering the ECB's refinancing rate at the next policy meeting on June 4, thus concluding that rates are not appropriate at the current level. Five of the 15 members said rates should be left unchanged. Five expressed a preference for a small rate cut to 0.75 %, the remaining five argued in favour of a cut to 0.5 %. When the vote was taken, a majority settled on the recommendation of a cut by 25 basis points to 0.75 %.

Growth prospects and inflation forecasts made by Shadow Council members stabilized somewhat. While the average GDP forecasts for 2009 was lowered still further to minus 4.1 % from minus 3.7 %, the GDP forecast for next year and the inflation forecast remained unchanged, all at fairly low values.

20090.3 (0.3)-4.1 (-3.7)
20101.2 (1.2)0.4 (0.4)

Contributors:. M. Annunziata; E. Bartsch; J. Cailloux; J. Callow; M. Diron, S. King; .J. Krämer; T. Mayer; E. Nielsen; J.-M. Six
Assumptions: Forecasters assumed that the ECB would leave its key rate at 1% for the next six months.

.Most members judge that recent improvements in some business cycle indicators were encouraging but should not be over interpreted as signs of an imminent upswing. Rather they interpret them as signs that the recession might be becoming less severe and note that output gaps are very large and very likely to become even larger over the coming quarters. A few members, in contrast, argued that these "green shoots" could indeed indicate that the Euro-area could return to growth soon.

The main arguments that the five members in favour of an unchanged stance advanced were: (i) there were recent signs that the recession was abating; (ii) much of the impact of simulative fiscal and monetary policy measures was still ahead and so it was unclear, yet, whether more stimulus would be needed; (iii) further rate cuts would not do much, as the transmission mechanism wasn?t working properly.

In contrast, members who advocated a rate cut argued: (i) the very low level of economic activity warranted lower rates; (ii) inflation was expected to undershoot the target in the foreseeable future; (iii) some members considered that there was still significant risk of deflation, warranting aggressive counter-measures. The prevailing view in this group was that a rate cut would help to ease borrowing conditions, even if not all of the easing might necessarily be passed on to credit customers by banks.

Almost all members welcomed the recent announcement of the ECB to buy covered bonds. About half the members judged that the indicated size of the program at ?60bn was rather modest and should certainly be increased. Other members suggested that the ECB should be ready to increase it, if conditions warranted this. Also, several members suggested that the program should be extended to other types of securities.

Individual Votes

Members' individual votes for May 7:
Jose AlzolaThe Observatory Groupcut 0.25
Marco Annunziata


cut 0.5        
Elga Bartsch

Morgan Stanley

no change
Agnes Benassy-QuereCEPIIcut 0.25
Jacques Cailloux


cut 0.5
Julian CallowBarclays Capitalcut 0.5
Giancarlo CorsettiEurop. Univ. Institutecut 0.25
Marie DironOxford Economicsno change (bias down)
Stephen King


cut 0.25
Jörg Krämer


no change
Thomas Mayer

Deutsche Bank

no change
Erik NielsenGoldman Sachscut 0.5
Jean-Michel SixStandard & Poor'sno change
Angel UbideTudorcut 0.5
Charles WyploszGrad. Institute. Genevacut 0.25

Frankfurt, May 28, 2009
Norbert Häring
Non-voting Chairman

Appendix 1

Quotes from individual members of the Shadow Council
(in no particular order)

"The appreciation of the euro is emerging as a potential downside risk to the, already sober, growth outlook, even though on a trade-weighted basis the euro has not yet appreciated much. For this reason, it is important for the ECB to keep open the option of lower rates and of a more aggressive private-sector purchase program.."
Josè Alzola, Senior Economist of The Observatory Group

."While there is a gradual improvement in confidence, in my view it is necessary to push interest rates right to the floor, which means taking the refinancing rate down to 0.5%, to ensure that bank lending rates are as low as is possible.""
Julian Callow, Chief European Economist of Barclays Capital

"With the existing risk of a sharp appreciation of the euro, the ECB should commit to keep interest rates as low as possible, until there are robust signs of recovery. It could also suggest that it would be ready to intervene on the foreign exchange market, if needed."
Agnès Bénassy-Quéré, Director of CEPII

"It is difficult to argue that the ECB policy rate is currently "appropriate" to use the ECB's word. Indeed, based on current and expected conditions the policy rate should actually be in negative territory. The ECB should announce as early as its June meeting that it is prepared to engage in additional purchase programmes should conditions deteriorate further."
Jacques Cailloux, European Chief Economist of Royal Bank of Scotland

""The ECB should not raise the already announced 60 bln volume of covered bond purchases. This could cause long-term inflation fears to rise and could thus be counter-productive."
Jörg Krämer, Chief Economist of Commerzbank

"I believe that the ECB should let the monetary policy measures taken already and those that are still in the pipeline -- such purchases of covered bonds and ultra-long refis -- to take full effect. Therefore, I would argue in favour of leaving interest rates unchanged.."
Elga Bartsch, European Chief Economist of Morgan Stanley

Appendix 2

Background information

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 economists 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 face-to-face meeting). 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 constitute 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 opinions about what the ECB should do, rather than what they forecast it to do (hence the "normative" views as expressed by Shadow Council members as to what they consider the ECB ought to do, can differ from what 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, although 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.

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