Weaker euro works in ECB's favour

GMT 07:30 2015 Sunday ,22 March

Arab Today, arab today Weaker euro works in ECB's favour

European Central Bank
Frankfurt - AFP

The weaker euro, which could approach parity with the US dollar, is making the European Central Bank's task of kickstarting the eurozone economy easier.
But the feel-good effects could turn sour if the euro's decline in value becomes too pronounced too quickly, analysts said.
Officially, the ECB has no exchange rate target. But by making eurozone goods cheaper to export and pushing up prices of imports, the weaker euro is positive for the single currency area's economy.
"In the current context, pushing down the euro is probably the only means the ECB has for pushing up inflation," Natixis economist Sylvain Broyer told AFP.
The ECB has rolled out a series of unprecedented measures in recent years to try to prevent the euro area from slipping into deflation, a dangerous downward spiral of falling prices that is difficult to break once it has set in.
But the euro has fallen by nearly 20 percent against the dollar in the past six months and central banks start to feel uncomfortable when changes in the exchange rate are too rapid and too volatile.
For the moment, the ECB does not appear to be alarmed.
President Mario Draghi recently estimated that the euro's decline should contribute "significantly" in bringing area-wide inflation back up towards the ECB's target of just below 2.0 percent.
In February, consumer prices in the 19-country bloc fell by 0.3 percent.
But in a scenario drawn up by the ECB's team of economists, an excessively weak euro could push eurozone inflation back above the 2.0-percent target by 2017. Such a scenario is all the more realistic because it was calculated using an exchange rate of $1.04 per euro.
- Caught off guard -
The extent of the euro's recent decline appears to have caught the ECB off guard: its most recent official forecasts were compiled using an average exchange rate of $1.14  this year and $1.13 in 2016 and 2017.
Nevertheless, the euro could fall even further against the dollar as a result of the ECB's policy of quantitative easing, or widescale bond purchases, said Commerzbank economist Joerg Kraemer.
At the beginning of this month, the ECB embarked on a massive 1.14-trillion-euro bond purchase programme, at a rate of 60 billion euros per month until September 2016. The idea is to pump liquidity into the financial system.
"The debt purchase programme is essentially a programme of currency devaluation," said Kraemer.
By purchasing eurozone sovereign bonds en masse, the securities become less attractive for investors in other regions, who divert their money to other countries, driving down the euro.
The mere speculation that such a QE programme might be in the offing set the euro on its downward path as long ago as last summer.
- Credibility at stake -
Nevertheless, "it's important for the ECB to preserve its currency's credibility" in the eyes of investors, said Broyer at Natixis.
With QE only having just started, it is premature to start talking about when the programme might begin to be phased out again, said one central bank official, speaking on condition of anonymity.
But internal debate within the ECB's governing council could become fierce in the future, especially as the most recent economic indicators suggest that recovery is already beginning to regain momentum.
Powerful ECB governors, such as the head of the German central bank or Bundesbank, Jens Weidmann, view the QE programme as unnecessary or even dangerous.
"If at the start of next year, growth is on track and inflation is rising again, the ECB's biggest difficulty will be to resist pressure for an early end to QE or a scaling down of the bond purchases," said Gilles Moec of Bank of America-Merrill Lynch.

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