The ECB Shadow Council decided with a majority of 14 members to recommend that the ECB leave its key rate unchanged at four percent at the next policy meeting onJune 5. One member voted in favour of a rate cut of 25 basis points instead. This was down five from last month’s six votes for a cut.
The reason that almost all proponents of lower rates changed their recommendation was stubbornly high inflation above three percent. Indeed, the average inflation forecast for 2008 increased further from 3.1 to 3.3 percent and the forecast for 2009 from 2.1 to 2.2 percent. The forecast for 2008 is above the range of the ECB staff's projections of 1.6 to 3.2 percent from March. This should be an indication of the need for a significant upward revision in the June-projections. The inflation forecast for 2009 is a notch above the midpoint of the last ECB projections, while the growth forecast for 2009 of only 1.4 percent is significantly below the latest forecast of the ECB staff.
|CONSENSUS FORECAST OF THE ECB SHADOW COUNCIL|
(Last month's forecast in parentheses)
|Year||HICP-Inflation in %||GDP-Growth in %|
|2008||3.3 (3.1)||1.7 (1.5)|
|2009||2.2 (2.1)||1.4 (1.4)|
Most forecasters have assumed that the ECB key rate will be 4.0 percent for the next six months, two have assumed a decline to 3.75 percent.
Forecasters: J. Alzola; J. Cailloux; J. Callow; S. King; M. Diron; T. Mayer; V. Riches-Flores; J.M. Six
Those changing their minds argued that the extended period of inflation overshoot had increased the risk that a self-feeding inflation dynamic might develop, even if most of them thought that this was only a risk, not a likely scenario. It was also argued that a rate cut in this high-inflation environment would not contribute to stimulating the economy, as such an action would be perceived by the public as an indication that the central bank has low ambitions regarding the maintenance of price stability. Therefore, a rising inflation premium in yields would neutralize the effect of lower short term rates. One member drew attention to the fact that inflation did not come down significantly as a consequence of the last economic slowdown and opined that this inflation decline might fail to happen again.
A very broad consensus emerged, that uncertainty was particularly high and that in this uncertain environment the severity of inflation risks and growth risks were of roughly equal importance. Therefore it was considered best by a very large majority to leave rates unchanged until it became clear which risk had to be tackled.
The member who upheld her recommendation of lowering rates conceded that inflation was coming back but argued that in the current environment the spike in prices would have its biggest effect in worsening the economic outlook further. She expects negative growth in the second quarter of 2008 and very slow growth in the ensuing quarters.
No member expressed an inclination to vote for higher rates any time soon, while several members said that they expected conditions for a rate cut to ripen during the next months.
The terms of two founding members of the ECB Shadow Council, Joachim Fels and Thorsten Polleit, have expired. The chairman thanked both members for their important role in setting up this body and for their consistently very insightful contributions to its deliberations. The ECB Shadow Council is now down to its new regular size of 15 members.
|INDIVIDUAL VOTES (Recommended rate change in percentage points)|
|Josè Alzola||Citigroup, London||no change|
|Agnès Bénassy-Quéré||CEPII, Paris||no change|
|Willem Buiter||London School of Economics and Goldman Sachs||no change|
|Jacques Cailloux||Royal Bank of Scotland, London||no change|
|Julian Callow||Barclays Capital, London||no change|
|Giancarlo Corsetti||European University Institute, Florence||no change|
|Marie Diron||Ocford Economics||no change|
|Daniel Gros||Center of European Policy Studies (CEPS), Brussels||no change|
|Stephen King||HSBC, London||no change|
|Thomas Mayer||Deutsche Bank, London||no change|
|Gernot Nerb||Ifo-Institute, Munich||no change|
|Véronique Riches-Flores||Société Générale, Paris||cut 25 bp|
|Jean-Michel Six||Standard & Poor's, London||no change|
|Angel Ubide||Tudor Investment Corporation, Washington D.C.||no change|
|Charles Wyplosz||Graduate Institute of International Studies, Geneva||no change|
May 27, 2008
Norbert Häring, Frankfurt