Lagarde’s message at the December press conference was not unambiguously hawkish

As expected, the ECB lowered at the last meeting of 2022 the pace of its interest rate increases from 75 to 50 basis points. This was accompanied, however, by communication that all observers and, more importantly, the market, interpreted as a firmly and unambiguously hawkish message. I beg to differ.

My different interpretation starts from an inherent inconsistency in ECB communication.

On the one hand, the ECB President confirmed the death of forward guidance: “Our future policy rate decisions will continue to be data-dependent and follow a meeting-by-meeting approach.” And “On the issue of interest rates, we will be looking at data. We will be data-dependent, and we will review data, particularly when we have projection meetings that are every three months or so.”

On the other hand, she insisted that interest rates will have to increase further and that “The ECB is not pivoting. … We’re not slowing down. …we have to rise significantly…” she even gave the size of future increases, 50 bp. “Based on the information that we have available today, that predicates another 50-basis-point rate hike at our next meeting, and possibly at the one after that, and possibly thereafter, but everything will also be determined by the review of data. So don’t assume that it’s a one-shot 50; it’s more than that. » Where the reference to “information that we have available today” does not weaken the message about ECB’s intentions. Indeed, this looks to me as forward guidance of the strongest, Odyssean, variety: happen what it may, “we are not wavering”. Ulysses is tied to the ship’s mast not to succumb to the singing sirens.

Now, the question is whether this inconsistency is due to poor communication, or even worse, poor thinking, or it is a subtle message. In my view, the latter is the case.

The ECB has opened at the December meeting of its Governing Council two paths to its future policy. On the one hand, if there will be positive surprises on the inflation front and possibly negative surprises on the growth front, the ECB can take the “no forward guidance” path and slow down and/or shorten its tightening. On the other hand, in the second path, by sending its “no wavering” hawkish message, the ECB is insuring against two big risks: first, that inflation is incorporated permanently into wage developments, feeding an inflationary spiral; second, that an inflation premium raises interest rates on a sustained basis, aggravating the cost of debt for heavily indebted countries, like Italy.

The subtle message of the ECB is what the current situation requires. Inflation developments are, as Lagarde also admitted, very uncertain and inflation expectations are unsettled. A hawkish message can thus be more effective than it would be if inflation had already consolidated itself. However, one cannot exclude that, just because of the hawkish message, there will be less inflation than currently foreseen, which would allow reducing monetary tightening.