European Central Bank likely to maintain monetary policy stance despite pressure from Germany to exit QE

The European Central Bank (ECB) is expected to maintain its monetary policy stance despite pressure from Germany to rollback quantitative easing. German Finance Minister Wolfgang Schaeuble in its latest speech called on the bank to unwind ‘ultra-expansionary policy’ in 2017.

Also, the hawkish ECB executive board member Sabine Lautenschlaeger in its recent speech opined that inflation looked set to rise here on, making a case to exit quantitative easing (QE).

There are reasons why Germany is concerned. While the bloc’s inflation quickened to a three-year high of 1.1 percent y/y in December 2016, Germany’s gauge accelerated to 1.7 percent y/y. Bundesbank cautioned that inflation could reach 2 percent in January 2017, given the firm growth momentum. Rightly so, the economy expanded 1.9 percent y/y in the last-quarter of 2016, fastest since 2011, reported DBS Bank in its research note.

While the breakdown is still awaited, the external sector likely drove overall growth, followed by private consumption and government spending, trailed by private investment growth. Germany’s sizeable current account surpluses (8.8 percent of GDP in the third-quarter of 2016 vs sub-5 percent in 2008-09) also reflected weak domestic demand conditions. Alternatively, this surplus also points to the economy’s high savings rate of 28 percent of GDP in 2015, above the other core-3 of the bloc, they added.

The DBS in its research note mentioned that the household savings rate is particularly high at 17 percent of GDP, higher than the OECD average. Inflation is thereby quickening against a background of rock bottom rates and negative returns for savers. It does not help that this is an election year. Given these dynamics, German authorities are likely to continue making a case for the ECB to normalise policy. The latter is, however, unlikely to oblige, until it is convinced that the improvement in economic conditions is sustainable.