Mario Draghi is part of a growing club of central bankers who are just fine with admitting they’re uncertain what’s going on right now — and that’s no barrier to action.
Far from giving fresh insights into how the U.K.’s decision to leave the European Union will affect the euro area’s economy, the European Central Bank president admitted on Thursday that, like everyone else, he has no real visibility. “It’s very difficult to understand how these big macro themes affect the recovery,” he said in Frankfurt after the ECB left its interest rates and quantitative easing unchanged.
Yet Draghi still stressed a “readiness, willingness, ability” to act if needed, so joining Bank of England Governor Mark Carney and even Federal Reserve Chair Janet Yellen as front-line risk managers in the midst of political turmoil. The consequence will be an intense focus on the slim roster of incoming data between now and the next ECB policy meeting on Sept. 8 to judge whether another roll of the stimulus dice should, and can, be undertaken.
“We should have a pretty good idea how sentiment has been affected,” by life after Brexit, said Howard Archer, chief European economist at IHS Global Insight in London. That said, “policy makers are at the stage where you wonder how much more they can actually do. As scope to act becomes less and less, you have to do it in the most effective way possible.”
The debate over whether to extend QE past March 2017, or to tweak the terms under which it is deployed, could be at the mercy of so-called soft data like purchasing-manager indexes or euro-area confidence indicators.
Those figures will mostly show how much Brexit has contributed to darkening the economic mood, not how much that mood actually translates into weaker trade, investment and consumer spending.
Some harder numbers will be available — such as Germany’s July factory orders and industrial output in the two days before the September meeting — but those are national reports and so narrower in scope. While Draghi has previously told euro-area finance ministers that Brexit could cut half a percentage point from growth over three years, that calculation was based on an assumption of weaker trade that he cast fresh doubt on in Frankfurt.
“With Brexit, there’s the trade channel, but is it the most relevant?” he said. “One would rather think of confidence or financial-services channels.”
It all makes for a thin basis for ramping up a QE program, especially one that some analysts say already risks running into shortages unless the ECB revises its self-imposed guidelines on what it can buy.
In such a fog, Draghi may well find himself consulting Carney’s recent speech on making monetary policy in uncertain times. On June 30, the BOE governor used one of his post-Brexit appearances to discuss the “post-traumatic stress disorder” that many developed economies find themselves in.
A lower growth outlook in a puzzling world gives companies and households a “heightened sensitivity to downside tail risks.,” he said. Yellen too has cited the post-Brexit confusion as a reason for not raising interest rates aggressively.
Instead of grappling with unknowns, Draghi might prefer to cast the spotlight on real-world concerns that could boost euro-area confidence if they are dealt with. In his press conference, he talked at length about Italy’s attempts to unburden its banks from their bad-debt load against the opposition of sticklers for EU rules. He urged greater flexibility, potentially giving succor to Prime Minister Matteo Renzi who is seeking a solution before he faces a referendum in October.
That’s a signal that what might really matter to the euro area isn’t the blurry contours of the post-Brexit economy, but the harder questions facing its lenders.
“Brexit won’t have an impact on the real data for a long time,” said Alessio de Longis, portfolio manager at the global multi-asset group at OppenheimerFunds in New York. More important is the “handling of the banking sector in the near future,” he said. “If credit conditions tighten, the European recovery is over.”