Eurozone Monetary Policy


ECB adopts forward guidance, commits to low rates for extended period of time

At its 4 July policy meeting, the European Central Bank (ECB) kept the refinancing rate unchanged at a record low of 0.50%, in a decision expected by the market. In addition, for the first time in its history, the ECB provided an indication regarding the path of policy rate setting in the future. According to the statement accompanying the monetary policy decision, "the Governing Council expects the key ECB interest rates to remain at present or lower levels for an extended period of time". A communication strategy of this type, commonly known as "forward guidance", had been previously adopted by other central banks - most notably by the Federal Reserve between 2008 and 2011 - but represents a novelty for the ECB. Time and again, in previous monetary policy decisions and public statements, European monetary authorities had explicitly ruled out pre-commitment to a given level of interest rates.

The decision comes on the back of a broadly unchanged assessment regarding the economic outlook. The ECB sees economic activity stabilizing and recovering over the course of the year, "albeit at a subdued pace". In addition, monetary authorities consider that the balance of risks remains tilted to the downside, as tightening conditions and uncertainty in the global financial markets "have the potential to negatively affect economic conditions". Regarding the outlook for price developments, the ECB expects inflation to remain subdued over the medium term and maintains the view that risks are on balance.

With the adoption of forward guidance, the ECB aims to strengthen the impact of its already accommodative policy stance. By providing an indication about the prevailing policy stance in the future, European monetary authorities expect to put downward pressure on longer term interest rates, thereby lowering the cost of credit for households and businesses. In addition, in the press conference following the monetary policy announcement, ECB President Mario Draghi clarified that the pre-commitment to keep interest rates at "present or lower levels" applies to all relevant policy rates, thus implying that the door remains open for the adoption of a negative deposit rate in the future.

Against this backdrop, FocusEconomics panellists expect the policy rate to end 2013 at 0.45% and 2014 at 0.48%.

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