(Bloomberg) — There’s no need to hold back on European Central Bank interest rate cuts as the 2% price target is in sight and inflation risks are to the downside, Governing Council member Fabio Panetta said.
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“Monetary policy continues to exert downward pressure on economic activity and on inflation, an effect that is less and less necessary with near-target inflation and persistently weak domestic demand,” he said in a speech on Saturday in Turin. “A less decisive easing of monetary policy could lead to excessively low inflation in the medium term.”
The ECB is weighing how quickly to lower borrowing costs and investors are currently pricing in more rate cuts until the deposit rate reaches 2% in the middle of this year. The central bank has lowered its key rate by 125 basis points since June. Policymakers have left little doubt on another quarter-point move in March, though it’s less clear what happens after that.
Inflation, at 2.5% in January, is still expected to sustainably reach the 2% target in 2025. But some officials worry about upside risks from higher energy costs and trade tariffs, while others fret that the weak euro-zone economy could pull price growth below that goal.
Panetta said borrowing costs are approaching the neutral rate, a level that neither restricts nor stimulates the economy. He also sees more downside than upside risks for inflation.
“At present, the main downside risk to inflation is weak economic activity,” Panetta said. “This is compounded by risks stemming from rising long-term yields” in both dollars and yen.
Economic Challenges
Panetta also said the European economy is facing a series of global challenges including a possible trade war with the US. To help strengthen growth, euro-area member states should invest more and better.
“Europe needs what I recently referred to as a ‘European productivity compact.’ This does not mean creating a fiscal union, introducing an EU finance minister or establishing mechanisms for systematic transfers between countries,” he said. “Rather it involves setting up a common spending programme.”
Italy’s economy faltered last year, growing just 0.5%, or 0.7% if adjusting for calendar effects, Panetta said. That fell short of the government’s 1% forecast. The Bank of Italy however expects the economy to “resume its expansion in the coming months,” he said.
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