Assuming a pretty low profile at the end of a very noisy but interesting week, was the slightly disappointing Eurozone inflation number. The number on its own is fairly meaningless – not reflecting actual inflation anywhere, in a vain attempt to reflect it everywhere. The HICP is a weighted average of inflation measurements amongst those countries that have adopted the euro, and is a broad brush attempt at having a stab at estimating inflation across the area. As such, it is probably as good a method as any – once you understand the complexity and individual make up of the measured constituents in the basket that is!
My point here is that to scream panic at such an indicator when there was a difference of 0.1% between the published number and the actual, would seem to me a bit far-fetched. I only mention this because a few people who should know better, have contacted me to say that the ECB will cut rates to zero/negative on Thursday as a result. Maybe it`s just me, but given that the last pretty useless cut was in November, what sort of message would that give out about the attitude of the ECB towards the `d` word? Mario Draghi said following January`s meeting that they would act again only if their medium term assessment of inflation changed for the worse, and I can`t see that as a reasonable argument for further action. Interest rates are a blunt instrument at the best of times, and over-use dulls their effectiveness and their impact! I thought back in November that the ECB were perhaps trying just a little too hard to be `out there`, when they surprisingly attracted everyone`s attention to the scale of their d word worries. If they were to cut this week, I would be mightily surprised. Cutting rates when they are around zero doesn`t do any good anyway, so on any number of counts, it should be a routine `inflation is expected to rise later this year`- no change! They will remain unchanged not because the euro is falling, but because it would potentially do more harm than good.
The ECB is expected to set one interest rate for countries that have 25% unemployment and the same rate for those that have 5% unemployment! At the moment, the rate is as appropriate for all as it has ever been. No one can claim that the area is booming, and low rates are needed. Even at the moneyed end of the region, there is no sign of overheating. Deflation meanwhile, is a real concern, but at the moment probably not a real worry. If anything, since January, the overall tone of the euro area has improved, and I think the option of leaving rates unchanged is sensible, consistent, and by far the best policy choice. The effectiveness of changes in monetary policy to the downside is worn out at these levels – Central banks can only go so far, and do so much. The mistake would be to not understand that!
