Further Thoughts on the ECB

The ECB appears to be more uncertain about the overall outlook than at any time in recent memory. During the press conference, Mr. Trichet said, "upside risks to price stability prevail," before adding that "the uncertainty surrounding this outlook for economic activity is particularly high at the current juncture," and that "downside risks prevail." 

Their view on inflation presents another paradox. While noting that "annual HICP inflation has remained considerably above the level consistent with price stability," and "is likely to remain well above levels consistent with price stability," Mr. Trichet also said the ECB's current stance on monetary policy "was consistent with price stability." This seems to be even more dichotomous when you consider that the ECB raised their inflation projections for 2008 and 2009, which means they don't expect to see inflation return to their target in that period.

Taken together, it looks as if the ECB really does not know at this time what their next move on interest rates might be given that in their view, "the uncertainty surrounding this outlook for economic activity is particularly high at the current juncture." The bank evidently sees a stagflationary situation prevailing because policy makers revised their 2009 growth projections down and their inflation projections up. While some analysts may speculate the ECB will eventually be forced to lower borrowing costs, from today's statements the better conclusion may be that the ECB is likely remain on hold going into 2009.

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