MNI INTERVIEW: More QE Won't Propel Eurozone Growth: Ifo Chief

By Luke Heighton

     MUNICH(MNI) - Restarting the European Central Bank's asset purchase

programme is unlikely to have much positive effect on euro zone growth, the head

of the Munich-based ifo Institute for Economic Research told MNI, in an

interview in which he also warned that the ECB should continue to pay heed to

market-based measures of inflation expectations.

     Major policy changes from the ECB are unlikely in the short-term "unless

the economic situation changes fundamentally," said Clemens Fuest, pointing to

the need to balance the attempt to push inflation closer to the ECB's target

rate of just under 2% with risks to financial stability and rising asset prices.

     "My understanding of that trade-off would be that it's not time to go back

to QE," he continued. "If the ECB did that now people would interpret it as

showing that it has a negative assessment of the current assessment, therefore I

think it would be wise to wait."

     Asked whether restarting asset purchases would have a meaningful effect on

growth, Fuest replied: "I think it's very questionable that it could - though of

course it would be a reaction to a changed situation, and it would depend what

the nature of that changed situation is. There may be an impact on the exchange

rate, and this might be interpreted as meaning that interest rates would remain

lower for even longer, but I think the impact would be really limited."

     Any serious downturn would likely meet with a targeted approach from the

ECB, rather than a "big package," said the ifo head, who was nonetheless

sceptical as to whether key rates could or should go much lower: "There isn't a

secular trend towards further decline," he explained. "It's more flat. So I

think rates could be pretty stable for some time."

     "While this low growth, low interest environment might not be ideal, it's

relatively stable. Of course there is always political risk, but conditions in

Europe for debtors to bring down their debt are very good. The question is, what

is the macroeconomic impact of this deleveraging?"

     --MARKET EXPECTATIONS

     Following dovish remarks by outgoing ECB President Mario Draghi in Sintra

in June, investors are now pricing in a cut in the deposit rate by September,

but some officials have warned that the central bank should not feel bound to

act in line with market expectations of inflation. Fuest said this might be a

mistake.

     "I would take market expectations very seriously," said Fuest.

     "There are a number of reasons why the markets are more pessimistic; maybe

they don't expect any great political changes, or a change to the economic

situation in Europe at the fundamental level. Maybe the expectation regarding

what the ECB can do, or is willing to do, is also limited. I think maybe the

markets are right."

     Yet investors, as well as governments and the public, may be placing too

much faith in the ability of monetary policy to repair economies, Fuest said,

noting that this will be a problem for Draghi's designated successor, Christine

Lagarde. The former IMF chief and French finance minister will also have to

contend with a growing challenge to central bank independence, although Fuest

added that its defence will be easier in Europe than in the U.S.

     "If there were an Italian crisis - although it's something I don't expect

at the moment - there would be enormous pressure on her to find some way or

another to bail out the Italian government, but that would violate the

fundamentals of monetary policy," he said.

     "I would expect governments to press her, but not openly, and that puts her

in a very difficult situation. At the same time, she is a person who could build

a consensus in Europe about how to deal with such a situation."

     Although Lagarde's political experience is a plus, her lack of training as

an economist will be a disadvantage at the ECB, Fuest said, although he noted

that she will benefit from having very capable aides.

     Bank of Finland Governor Olli Rehn has called for the ECB to re-examine its

monetary policy framework, but Fuest advised against such measures as an upwards

revision of the central bank's 2% inflation target.

     "It would simply create more uncertainty about where prices and monetary

policy are going; it would create the expectation that the ECB could get more

aggressive in quantitative easing, with further side-effects for asset markets,"

he said, adding that such a move would not be "healthy ... given that we can't

get to two."

     "We need a debate about the real, non monetary reasons behind low interest

rates, like low investment, he added. "I don't think meddling with inflation

will help us there," Fuest said.

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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