MNI INTERVIEW: ECB Should Not Cut Rates Again- OeNB's Holzmann

The European Central Bank should leave interest rates untouched unless inflation falls much lower, Austrian National Bank governor Robert Holzmann told MNI.

“There is no reason at the moment why a further cut should take place - definitely not at the next meeting, and also for the rest of the year,” Holzmann said. “Rates are currently 2% in nominal terms, which given my assessment of R* puts us at least at neutral, but quite likely in expansionary territory.”

The ECB cut its deposit rate by 25bps to 2.00% last month, and while Holzmann said its base case scenario for inflation of 2.0% in 2025, 1.6% in 2026 and 2.0% in 2027 is a “good average one,” deviations in both directions are likely, with the balance of risks tilted to the upside. (See MNI SOURCES: Projections Confirmed So Far, Sept Cut Likely)

“The projections are art and science; they have a scientific basis, but there are a lot of judgements also. The question always is how much of the judgement, the particular regarding the level of uncertainty, is there? I cannot imagine that, given the continuing disturbance of foreign trade, the effect will be to decrease prices.”

Holzmann, whose term at the OeNB expires this summer, making July’s Governing Council meeting his last, said that in the absence of new information the monetary policy setting can be expected to remain on hold this month, with any change “difficult to justify.”

MEETING-BY-MEETING

He questioned whether the ECB’s meeting-by-meeting, data-dependent approach to setting the policy stance is appropriate in an environment where U.S. trade policy shifts in particular mean incoming data can fluctuate.

“Under those circumstances it is even more important to have an idea of where R* is. If, of course, we have much lower inflation, then no-one would reject becoming more proactive. But were that the case then the proper channel is through interest rates, rather than asset purchases,” he said.

The NATO commitment to spending up to 5% of GDP on defence and military infrastructure in coming years need not lead to higher eurozone inflation if the money is spent wisely and spare cross-border capacity utilised effectively, Holzmann said. (See MNI INTERVIEW: German Advisor Sees Possible Joint EU Debt Deal)

“Were effective collaboration to take place then I do think there is sufficient spare capacity to produce what Europe needs. It’s also important to remember that investment in infrastructure also serves a civilian purpose, and again, my sense is that there is enough spare capacity in the construction sector for that to happen,” he said, “But work needs to take place at the European as well as the national level, otherwise a lot of money will be spent to little economic effect, at the same time as there is a substantial increase in public debt.”

EURO

Following remarks by ECB vice president Luis de Guindos that a euro exchange rate above USD1.20 would make Europe’s monetary policy more complicated, Holzmann countered that while a higher exchange rate makes things more difficult for exporters, it also offers cheaper inputs. 

“It very much depends on how tariffs evolve, but if the euro is to appreciate then a slower pace is definitely preferable to a faster one,” he said.

Whether or not trade diversion from China will add to disinflationary pressures in Europe is ultimately a political choice, Holzmann said, noting that the EU has acted against price dumping in the past, “and in my view that would be appropriate again were such a situation to arise.” 

And while the Chinese yuan has lost value against the euro, it remains within historical ranges, Holzmann said, with little sign of a currency war in the offing.

“I’m sure China will want to keep it low in order to support exports, and that will have an impact on the price of European imports and input costs. But at the moment I don’t see any evidence that suggests there will be a very strong impulse to gain an advantage via aggressive devaluation of the yuan.”