The European Central Bank, or ECB’s, unprecedented move to issue clear guidance on its future monetary policy stance was welcomed by markets, which did not expect such clarity from policymakers, but the move also triggered a debate about the short and long-term impacts of such forward-looking statements from central banks.
Most economists lauded the ECB President Mario Draghi's “policy innovation,” and said the move could reduce volatility in the markets, which in turn, would allow greater flexibility to the central bank on monetary policy decisions.
“What today’s shocker says to the market is that Super Mario (in reality not just him, but the rest of the Governing Council, after all it was unanimous…) is dragging the ECB, however slowly, into the realm of innovative, experimental central bank policy making in the mould of the BoE, Fed, BoJ, etc.,” Credit Agricole said, in a note to investors.
Reacting to Draghi’s move, Kit Juckes, a strategist at Societe Generale, said that the move will help to stabilize interest rates and the markets.
“A guarantee of super-low rates for a really long time will help companies avoid default as a result of higher rates and threatens to force yield-hungry investors back to the market, buying at lower yields than they probably wanted to,” Juckes said, according to MarketWatch.
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Draghi, after a policy meeting on Thursday, issued a forward-looking guidance stating, “We have injected a downward bias in interest rates for the foreseeable future." Earlier, an official statement from the ECB said: “The Governing Council expects the key ECB interest rates to remain at present or lower levels for an extended period of time.”
This constitutes a significant departure from its earlier stance of refraining from "pre-committing “to a policy course. The ECB's move Thursday followed a similar and unusual step from the Bank of England, which in its statement, also hinted at low interest rates for the foreseeable future.
However, the Credit Agricole report observed that Draghi did not explicitly mention what an “extended period” could mean and that this could lead to considerable uncertainty “over the exact content of the ECB’s commitment.”
Although Draghi rejected views that the ECB’s decision was aimed at offsetting the impact of the U.S. Federal Reserve’s comments about winding down its bond-buying program, economists pointed out that the adverse spillover effect from the Fed's statement over global markets, could have had a bearing on the ECB’s latest statement.
“One objective result of forward guidance, whatever its fragility in the face of actual changes in underlying macroeconomic and monetary conditions, should be to reduce short-expiry implied volatility, which has risen everywhere once the Fed’s QE ‘taper’ language started exiting market nerves,” the Credit Agricole report said.