European Central Bank President Mario Draghi’s opening speech is likely to hog the limelight at the beginning of this week when he delivers a welcome address Monday evening followed by introductory remarks at 0900 GMT on Tuesday, at the three-day ECB Forum on Central Banking in Sintra, Portugal.
Markets await his comments on monetary policy at the event, especially after the ECB announced an easing bias last week by extending forward guidance and detailing terms of its new TLTRO. Also, analysts are reminded about the market reaction to the Draghi’s speech at the same event in previous years.
The carefully chosen words of central bankers have long been analysed in minute detail and influenced financial markets, even more so since huge stimulus programmes have increased their sway. At various times, the words of leading central bankers have triggered significant reactions and emphasised that complex relationship between the upholders of monetary policy and global markets.
So, when someone mentions ‘Sintra’, any trader worth his salt will recall the contribution of Draghi two years ago when central bankers gathered in Portugal to indicate that the era of quantitative easing might be coming to an end. "All the signs now point to a strengthening and broadening recovery in the euro area," Draghi said at the Forum in 2017. "Deflationary forces have been replaced by reflationary ones."
There were caveats aplenty of course, but the tone had been set. The single currency shot higher; bond yields rose. The markets smelt exuberance as Draghi sounded positively bullish. The whipsaw in the euro and yields came as markets thought the central bank would begin to phase out its crisis-era policies sooner than expected. At the time, a combination of cheap and easy credit, cheap oil, a weaker single currency and less austerity had helped power a recovery that was meant to get better still.
Fast forward to this time last year and Draghi’s sunny optimism continued from the more infamous meeting, hailing progress on inflation despite "rising uncertainty". He said there was "substantial" evidence to suggest that the "convergence" towards the bank’s projected path for inflation to hit its goal of below but close to 2pct had "held firm". The subsequent ECB meeting pressed ahead with plans to end its landmark QE programme when Draghi announced it would cut the size of its bond purchases, despite signs of a slowdown in growth.
We now preside over a somewhat different economic landscape even if the dovish market expectations ahead of last week’s ECB meeting were initially left disappointed. To recap, the ECB eased its guidance to keep rates at current low levels at least through the first half of 2020. Some governors also raised the issue of cutting the deposit rate or restarted QE. The lack of clear signals that easing is coming left many unhappy, although Draghi did stress in the Q&A session that the ECB was ready to act “if adverse contingencies were to materialise”.
The announcement did little to lift depressed inflation expectations that currently trade on all-time lows. The widely watched 5-year/5-year EUR inflation forwards sit on levels where the ECB previously stepped up its stimulus measures at an earlier stage. According to a Bloomberg report last Monday, ECB officials are concerned that inflation expectations are becoming unanchored and this is giving members serious grounds for concern.
Growth prospects for the Eurozone have worsened of late as country and sector specific issues have disrupted the bloc’s economic expansion, while the risk of US auto tariffs and a ‘hard’ Brexit loom negatively over business sentiment in the region. In addition, the weaker Chinese outlook will continue to dampen growth in the bloc with the sluggish trend in industrial production continuing to point down as activity surveys remain subdued.
That said, for all the adverse external factors weighing on the manufacturing outlook, domestic demand remains resilient due to accelerating wage growth and stable job gains whilst the unemployment rate sits at post-GFC lows.
Most significant are the underlying worries about growth and inflation. These have pressured core Eurozone yields with bund yields hitting all-time lows and there is now much speculation about what tools the ECB has available to use in order to further loosen monetary policy. Any hints on more forward guidance strengthening, rate cuts or restarting QE in some form will be seized upon.
And yet, Draghi has only a few more months left as Governor, and it seems quite likely that any new policy departure may have to await the selection of his replacement. Does ‘Super Mario’ have one last hurrah in the Sintra sunshine?
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