A missed opportunity – Preliminary thoughts on the ECB press conference

In line with our forecast, but disappointing market expectations that after the BoE and the SNB decisions were expecting more aggressive action, the ECB cut rates by 50bp bringing the refi to 3.25%.

At a certain point, we had the suspect that the statement Trichet was reading was an old one given that there were very few remarks to the genuine economic deterioration the euro area is experiencing at this juncture. Over the last month, the world has changed but the ECB seems not to have realized it. During the Q&A, Trichet admitted that it’s a new world since Sep 15, but they forgot to change the statement. Actually, they no longer say that domestic demand is contracting as last October, rather it is now simply “sluggish”. The only relevant news that leave a little hope is that they at least discussed a 75bp rate cut, but Trichet openly stated that some members wanted a 25bp cut, so we are left with the clear impression that today’s decision is the result of a difficult balancing act, which certainly is not a good thing for a credible central bank. Next month, when staff projections will show inflation below 2% next year and likely in 2010, the room for a more pronounced move should remain open.

As a matter of fact, Trichet hinted that the Q4 Bank lending survey will show net tightening in credit standards, with the deterioration being less pronounced for households than for corporates. Apart from that, we have heard again that it is imperative that inflation expectations stay anchored; that there is the need to avoid second-round effects on wages (although wage pressure are slowing); that some upside risks to price stability keep lingering (in the short run risks to inflation are in fact all on the downside). Even the monetary analysis is too sanguine on credit developments with the only concession that we shouldn’t take incoming M3 readings at face value because some significant portfolio shifts have taken place recently. Compare the statement with the BoE communiqué released earlier today and you probably have the idea of two central banks of two different planets.

During the Q&A Trichet avoided to admit that the euro area is in recession (we have to wait until next month’s updated projections) and only acknowledged that they can cut rates again. The ECB sees an ongoing disinflation process but current inflation is still at 3.2% notes that monetary aggregates are still growing fast. These sentences do not seem fully consistent with the usual reference to price stability to be achieved in the medium term. Plus, the reference to all labor costs indicators as gauges of price pressures look misplaced given that they are lagging indicators, reflecting the past cyclical strength.

Bottom line: Trichet clearly said that they are neither frontloading, nor backloading any rate cuts. Indeed, it is not a matter of size and timing. We were actually projecting 50bp today. However, following yesterday’s dovish remarks by Weber and Stark and today’s courageous move by the BoE, hopes for a more decisive action were justified. As usual, today’s manoeuvre is the umpteenth compromise agreed within the Council among those who pushed for more and the fans of price stability no matter if the world is falling apart. We see another 50bp cut in December and confirm our 2% target to be reached within next June. But, we are clearly left with the feeling that today was a missed opportunity.