Data Dependency as ECB’s Arm Candy
You Can’t Put the Entire Euro Area on Therapy
Yes, we know that the ECB is following a «data-dependent and meeting-by-meeting» approach to determining its appropriate monetary policy stance.
We have heard it enough that the ECB is dependent on the data.
But what does the data depend on?
The data depends on the ECB.
Why?
Because the ECB determines monetary policy by setting the key interest rates.
No doubt, ECB’s monetary policy influences how much we have to pay to borrow and how much interest we receive on our savings.
In other words, monetary policy concerns the decisions taken by central banks to influence the cost and availability of money in the economy.
The primary monetary policy instrument is the setting of ECB policy rates, which influence financing conditions and economic developments, thereby contributing to keeping inflation at the ECB’s target level.
Thus, anyone who talks about European economic weakness these days cannot avoid mentioning the ECB's interest rate policy.
In fact, the ECB interest rate policy has been a key factor in shaping economic conditions in the Eurozone.
As inflation surged in recent years, the ECB's response (*) was to raise interest rates in an effort to curb rising prices. While this strategy was aimed at controlling inflation, it has also had significant impacts on economic growth, borrowing costs, and consumer spending.
Raising interest rates tends to slow down economic activity because it makes borrowing more expensive for businesses and consumers, which can hurt investment and spending. This is especially challenging when economies are already facing slowdowns or are in the midst of recovery from the pandemic.
Yet a lack of demand is still being reported in all areas of the German economy and capacity utilisation is quite low. And this is the source of the companies' investment weakness.
In Germany, short-term interest rates have even risen more sharply in relation to long-term interest rates than at any time since the 1950s, meaning that the interest rate structure has been inverted more strongly and longer than in previous restriction phases, as Heiner Flassbeck points out in a recent blog entry.
After all, the interest rates are not just a more or less insignificant cost factor, but the decisive indicator of whether we wait for returns on savings or whether we go to the bank in order to take out a loan and invest.
It is absolutely clear that under the demand and interest rate conditions described above, investment activity plummet, the economy will stall, and underemployment will rise.
Only the ECB seems to spend time on much restrictiveness and overemphasizing on data-dependency (maze).
The ECB is data dependent. And the Data is ECB dependent.
But what would interest rates do when they were not dependent on the ECB?
It is as if the ECB wants to maintain its restrictive monetary policy course in order not to lower interest rates.
(*)
The decline in inflation after the COVID-19 pandemic was almost entirely due to transitory inflationary pressures fading (as supply chains normalized, demand stabilized, and temporary factors like energy prices normalized) and base effects (last year's high inflation numbers were being compared to).
The ECB’s policies, while relevant to broader economic conditions, did not play a direct role in this specific decline in inflation. The process was more about the natural unwinding of pandemic-induced distortions, rather than monetary tightening or policy shifts by the ECB.