News

Should the European Central Bank Aim to Overshoot Its Inflation Target?

In a Nov. 10 interview, Oscar Arce, the Spanish central bank's director general of economics, expressed concerns about a potential deflation –not only for Spain, but all of the eurozone.

As a strategy for confronting the risk of deflation, Arce said the ECB should aim to exceed its inflation target, which is just below 2%.

Here's an excerpt from a Nov. 10 Bloomberg article:

In the longer term, [eurozone financial] officials should consider a Federal-Reserve style strategy that allows inflation to temporarily rise above their goal, Arce said.

That's a topic the central bank is currently reviewing, and has been flagged as an option by [ECB] President Christine Lagarde, as well as Hernandez de Cos.

The current goal is "below, but close to, 2%" -- and Arce said a specific target, such as 2% would reduce some of the ambiguity and the risk of misinterpretation.

Some economists have expressed doubt that the ECB will be able "overshoot" a target they haven't come close to hitting in years.

Indeed, Elliott Wave International's November Global Market Perspective, a monthly publication which covers 50-plus worldwide markets, says that if the ECB could've reached its inflation target, it would have already done so.

Here's a chart and commentary:

InflationMistargeting

If central banks were able to generate inflation (let alone overshoot it) they would have done so by now. Instead, the European Central Bank has failed to achieve its 2% inflation target for most of the past decade, as the top graph on this chart shows. Core inflation, meanwhile, which excludes food and energy prices, has languished below 2% ever since the ECB began inflation targeting way back in October 1998. The arrows on the chart depict the parade of official proclamations that have accompanied Europe's battle with deflation. They began back in July 2012, when former ECB president Mario Draghi delivered his infamous "whatever it takes" speech. Versions of the same statement were uttered in November 2015, December 2015, January 2016 and March 2018 alongside dozens of interest rate cuts, trillions of security purchases, targeted credit operations, direct loans to businesses, a 0% interest rate policy, a negative interest rate policy, and round after round of quantitative easing.

The last two quotes on the chart come from current ECB president, Christine Lagarde. In April, she picked up exactly where Draghi left off, reiterating that the ECB was "fully flexible" on bond purchases to try to generate inflation. By May, when Germany's constitutional court demanded that the ECB justify its purchases, Lagarde responded: "We are an independent institution, answerable to the European Parliament, and driven by our mandate. We will continue to do whatever is needed, whatever is necessary, to deliver on that mandate. Undeterred."

Lagarde probably doesn't know it, but the waves of social mood do not care what policies she believes to be needed or how steadfastly she tries to deliver them. In fact, social mood drives the very policy prescriptions that financial authorities think they make independently. As societal mood waxes negative, an accelerating public disdain for debt will force the ECB to abandon every single one of its credit-pushing mechanisms.