Central Banks Close Ranks
The ECB’s annual forum in Sintra offered no clear signal on September rates, but Kevin Warsh’s first international appearance as Fed chair pointed to continuity, independence and cooperation. A commentary by Ignazio Angeloni
Anyone expecting the European Central Bank’s annual forum in Sintra, Portugal, which ended last Wednesday, to provide guidance on the future path of interest rates was disappointed.
No central bank official commented on the matter. But the issue must have dominated the conversations on the sidelines, judging from the remarks made by other participants.
With very few exceptions, the message conveyed to the press was that the inflation flare-up is over and that the central bank should refrain from further rate increases after the 25 basis point rise on June 11.
The June inflation figure, published on the final day of the conference, does support that conclusion. At least in some respects. Headline inflation fell from 3.2 per cent in May to 2.8 per cent.
The decline in energy prices was much more marked, from 10.8 per cent to 8.7 per cent, as was the fall in food prices, from 4 per cent to 3.2 per cent. It would therefore appear that the two sources of inflation, energy and food, are losing momentum. This raises hopes that their transmission to the rest of consumer goods will also prove short-lived.
Other factors, however, suggest that judgement should be deferred.
The diplomatic and military situation remains unstable, in Iran as in Lebanon. Financial markets, which are always well informed, are optimistic, but in reality anything could happen.
A closer look at the June data also calls for caution. The index excluding energy and food, which captures trends beyond the short term, is now higher relative to February, the start of the conflict, than it was in 2022, after Russia’s invasion of Ukraine triggered the surge in energy and food prices.
Put simply, underlying inflationary components are moving upwards more rapidly today than they did then. In 2022, too, the inflation “optimists” advised the ECB to wait before raising rates. That was advice the central bank later regretted following.
With the information currently available, it is not possible to say more. It seems certain that the ECB will leave rates unchanged in July, but the September decision remains open. Market participants and observers can only wait and watch, or as the English expression has it, wait and see.
Warsh’s first test
The far more interesting aspect of Sintra, however, was another one: the first appearance at an international public event by the new chair of the Federal Reserve, Kevin Warsh.
Behind this lay a broader question: what image would the world’s main central bankers, from the United States, the euro area, the United Kingdom and Canada, whose currencies together account for almost the whole of international finance, with only the Japanese governor absent because of illness, project in the closing debate about the state of international monetary co-operation at such a politically difficult moment in many other respects?
The central bankers passed the test with flying colours.
The image conveyed in the discussion, moderated with effectively provocative questioning by an American journalist, was one of full convergence on the main issues of monetary and financial management.
There was perfect agreement on the objective of price stability, which for all of them means inflation at 2 per cent. There was agreement on communication methods, which should be transparent on analysis and decision-making procedures, “framework guidance”, a new term coined by Christine Lagarde, or “reaction function” in economists’ jargon, but not on the future path of rates.
The old “forward guidance” used during the crisis has now been abandoned by all.
There was also agreement that although economies are exposed to the same global conditions, their starting points differ, and this explains different decisions.
For example, the ECB raised rates in June while the Bank of England did not, because euro area rates started from a lower level. Finally, and importantly, the climate of concord bodes well for co-operation in any future crises.
Coordinated interventions saved the economy in 2008. After the Sintra debate, it is hard to imagine that those four central bankers would behave differently in the future, should the need arise.
Sintra made fully evident the traditional central banker’s mantle that Warsh has worn since the moment he was confirmed at the head of the Fed. On February 10, in a commentary in these columns, I suggested waiting before condemning him on the basis of his pre-nomination statements.
Opportunism in order to be elected may be unpleasant, but the important question was, and remains, how the person behaves once on the bridge.
One not irrelevant signal was that Warsh attended all sessions of the conference from the audience, not only the final one in which he took part.
In the debate, he repeatedly affirmed the independence of the Fed and the objective of price stability, with an emphasis that the occupant of the White House, who reacted to the latest disastrous US inflation data by saying “I love inflation”, cannot have failed to notice.
The prospect of an imminent US rate cut appears to have been shelved. Finally, one colourful but also substantive detail concerns US-EU relations.
While these are at their lowest point in 90 years, Warsh offered praise for Lagarde that bordered on the compromising: “Twenty years ago I liked you, now I love you.”
One can only hope that this tabloid-ready line will be confirmed in any circumstances, not currently foreseen, in which European banks might need to be refinanced in dollars.
The impact of AI
The most important substantive point discussed by the four governors, and throughout the rest of the conference, concerned the consequences of artificial intelligence.
Tobias Adrian, the influential financial counsellor of the International Monetary Fund, offered a reassuring assessment: recent stock market corrections and the increase in sector revenues reduce the risk of speculative excesses.
The central bankers, while not ruling out that artificial intelligence may one day prove disinflationary as the internet ultimately did in the late 1990s, focused mainly on the immediate inflationary effects on the demand side. This was another area of agreement on how to respond to current inflationary pressures.
Speaking of artificial intelligence, if to resolve doubts about interest rates we ask the leading AI model available on the web the question “Should the ECB raise rates in September?”, we receive the following answer: “Probably not as a baseline scenario, but a September move remains plausible if inflation or energy shocks prove persistent.”
If it says so...
A previous versioin of this article was published by Il Foglio
IEP Bocconi does not express opinions of its own. The opinions expressed in this publication are those of the authors. Any errors or omissions are the responsibility of the authors.
