Mario Draghi: ECB needs "safety margin" against deflation
European Central Bank President defends cutting rates to near-zero levels amid criticism from Germany
By Ambrose Evans-Pritchard
6:10PM GMT 21 Nov 2013
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Mario Dragh said the eurozone’s inflation rate has been in “slow motion” decline for several months Photo: AFP
The European Central Bank has fought back against harsh German criticism, insisting that it had to cut rates to near zero to head off deflation risks and stabilize debt burdens in the crisis states.
Mario Draghi, the ECB’s president, said the eurozone’s inflation rate has been in “slow motion” decline for several months. This has spread to all major components of the price index since the summer, pushing the inflation rate down to 0.7pc. Prices have actually fallen over the last three months.
Mr Draghi told an audience in Berlin that the bank acted to secure a “safety margin against deflationary risks”, acknowledging that last week’s rate cut to 0.25pc had set off a political storm and raised fears over an erosion of savings.
Both German members of the ECB’s council opposed the cut. The German media has described it as a Latin coup to seize control of the ECB’s policy machinery. Hans Werner Sinn, head of Munich's IFO institute, accused Mr Draghi of misusing the ECB to bail out Italian debtors.
The experience of Japan in the 1990s is that once the authorities let inflation fall too low, the country became vulnerable to any deflationary shock from the outside. This happened with the East Asia crisis of 1997 to 1998, pushing Japan over the edge into a deflation trap.
Mr Draghi’s plea came as the eurozone’s PMI surveys for November came in weaker than expected, with the added twist that Germany is vastly outperforming France. “It is extremely disappointing and worrying. Recovery will remain tortuously slow,” said Howard Archer from IHS Global Insight.
Mr Draghi’s plea came as the eurozone’s PMI surveys for November came in weaker than expected, with the added twist that Germany is vastly outperforming France. “It is extremely disappointing and worrying. Recovery will remain tortuously slow,” said Howard Archer from IHS Global Insight.
France’s manufacturing index fell to a six-month low of 47.2pc. The private economy as a whole has slipped back into contraction. Dominique Barbet from BNP Paribas said the data showed France was “well into the theoretical recession territory” after GDP declined in the third quarter.
Any such relapse would be a serious blow to president François Hollande, who trumpeted earlier this year that the crisis was over. Mr Hollande’s approval ratings have dropped to 20pc, the lowest of any French leader in modern times.
Jean-Michel Six from Standard & Poor’s said France is lagging the whole eurozone and is rapidly losing export share to Spain, where costs have been slashed.
“The Spanish are producing same kind of goods in automotive components and other sectors as the French, but they are much more competitive. You can’t blame France’s problems on the strong euro. Spain uses the same euro,” he said.
Mr Draghi said low inflation in the eurozone is complicating efforts by Club Med crisis states to carry out internal devaluations within EMU to regain competitiveness, while at the same time controlling their debt trajectories.
“If average inflation is allowed to drift too low at the euro area level, it is much harder for those countries to undershoot the average. Adjustment runs into major head winds as demand suffers and real debt burdens rise,” he said.
The comments follow warnings this week by the OECD watchdog that the eurozone’s crisis policy cannot work unless there is more stimulus in Germany and the eurozone core to balance the adjustment.
It said the attempt to drive down wage costs across Southern Europe through deflation is leading to a debt trap, and is in contradiction with the other objective of controlling debt ratios.
This critique has been made by leading economists off all stripes from the across the world.
In a clear riposte to critics in Germany, Mr Draghi said the ECB’s 2pc inflation target is “defined for the euro area as a whole”. This necessarily means that some countries may go through bouts of inflation above 2pc to balance the system, when they are growing faster than others.
He reminded the audience that the framework was devised by Otmar Issing, the former high priest of the Bundesbank and the venerated chief economist of the ECB in its early years.
Mr Draghi said Portugal, Ireland, and Greece have slashed relative labour costs by 15pc since 2009, and have achieved current account surpluses. They are no longer “living beyond their means”.
Yet he admitted that the wrenching adjustments have cut the eurozone’s economic output and perhaps also its growth rate. “Euro area countries are using the second decade of the euro to undo the mistakes of the first,” he said.
Any such relapse would be a serious blow to president François Hollande, who trumpeted earlier this year that the crisis was over. Mr Hollande’s approval ratings have dropped to 20pc, the lowest of any French leader in modern times.
Jean-Michel Six from Standard & Poor’s said France is lagging the whole eurozone and is rapidly losing export share to Spain, where costs have been slashed.
“The Spanish are producing same kind of goods in automotive components and other sectors as the French, but they are much more competitive. You can’t blame France’s problems on the strong euro. Spain uses the same euro,” he said.
Mr Draghi said low inflation in the eurozone is complicating efforts by Club Med crisis states to carry out internal devaluations within EMU to regain competitiveness, while at the same time controlling their debt trajectories.
“If average inflation is allowed to drift too low at the euro area level, it is much harder for those countries to undershoot the average. Adjustment runs into major head winds as demand suffers and real debt burdens rise,” he said.
The comments follow warnings this week by the OECD watchdog that the eurozone’s crisis policy cannot work unless there is more stimulus in Germany and the eurozone core to balance the adjustment.
It said the attempt to drive down wage costs across Southern Europe through deflation is leading to a debt trap, and is in contradiction with the other objective of controlling debt ratios.
This critique has been made by leading economists off all stripes from the across the world.
In a clear riposte to critics in Germany, Mr Draghi said the ECB’s 2pc inflation target is “defined for the euro area as a whole”. This necessarily means that some countries may go through bouts of inflation above 2pc to balance the system, when they are growing faster than others.
He reminded the audience that the framework was devised by Otmar Issing, the former high priest of the Bundesbank and the venerated chief economist of the ECB in its early years.
Mr Draghi said Portugal, Ireland, and Greece have slashed relative labour costs by 15pc since 2009, and have achieved current account surpluses. They are no longer “living beyond their means”.
Yet he admitted that the wrenching adjustments have cut the eurozone’s economic output and perhaps also its growth rate. “Euro area countries are using the second decade of the euro to undo the mistakes of the first,” he said.
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