MNI INTERVIEW: ECB Hawks Fly Away As Germany Slows-Wyplosz

The sharp deterioration of Germany’s economy has prompted a sudden about-face by hawks at the European Central Bank, which now looks likely to start cutting rates before the Federal Reserve, by as early as the first quarter and perhaps in 50-basis-point increments, prominent economist Charles Wyplosz told MNI.

Germany looks “particularly weak,” now that real rates have turned positive at the same time as Berlin has been forced to scale spending plans following a Constitutional Court defeat, Wyplosz said in an interview. (See MNI INTERVIEW: German Budget Faces "Severe" Cuts-Gov't Advisor)

“There is a distinct possibility that the combination of contractionary monetary policy now hitting contractionary fiscal policy might push Germany further down. That's exactly why Isabel Schnabel is now sounding more dovish,” Wyplosz said, pointing to remarks by the most prominent hawk on the ECB’s Executive Board in which she ruled out further monetary tightening. “It's also why the ECB will start cutting interest rates much earlier - and maybe much faster - than what they have been saying so far.”

"PANIC"

Inflation is set to fall below the 2% target soon, which could make the ECB “panic”, he said.

“Growth, which is not glorious, will weaken further. In that case, they might move in 50bps steps, at least early on,” he said. “I think the ECB might move earlier than the Fed, so some time during the first quarter or early in the second quarter of next year.” (See MNI INTERVIEW: US Soft Landing Key To ECB Easing).

The effect of monetary tightening is now threatening to deepen recession, after a typical 12-month lag, said Wyplosz, who is Emeritus Professor of International Economics at the Graduate Institute, Geneva, where he was Director of the International Centre for Money and Banking.

“The hawks have realised that this is not the soft landing and gradual decline of inflation they expected," he said, noting that the ECB had also been too slow to ease policy. “So far they have been saying a little bit firmly, ‘We'll cut when we see definite proof.’ They may see definite proof way earlier than they thought, and their forecasts may change quickly - as they usually do when they make mistakes. (see MNI SOURCES: ECB Needs Sub-3% Core Inflation To Consider Cuts)