Mario Draghi is about to end his eight-year term as ECB’s president after announcing his farewell stimulus last month. Christine Lagarde, the former chief of IMF, will step into her new role as the fourth ECB president on 1 Nov. Since it is a tradition for ECB policy makers to respect president’s views, ECB head has a huge influence on its monetary policies. Lagarde will be the first non-economist ECB president, yet her former leading role in handling Eurozone debt crisis demonstrated her ability to communicate effectively, manage crisis and forge consensus between European countries. We have listed Lagarde’s five major challenges ahead and expect ECB’s easing policies to continue for a long time.
- The first president without technical expertise: weaknesses and advantages. Lagarde distinguished herself from several competitors including Finnish and French central bank presidents, and gained the endorsement on her candidacy for ECB’s top job from European Council. Lagarde is an “exception” compared with the previous three ECB presidents who were all professional economists. She is a French born in 1956, with over 20 years of experiences as an attorney in private sector. Later she started to work for French government as Trade Minister and Economy and Finance Minister from 2005, before she served as IMF head since 2011. Despite absence of central bank working experience and economics background, her abilities in dealing with European debt crisis are exceptionally valuable to the area amid multiple headwinds. She has great political influence in Europe, being well known for her flexibility in communication, forging consensus, balancing interest and values of different countries which is conducive to the independency of central banks. In addition, she is also good at crisis management and maintaining financial stability, hence playing down the chances of economic and debt crisis.
- Lagarde’s guiding objectives to pursue during her eight-year mandate. According to Lagarde’s answers to parliament’s questions after being nominated, she has several main goals to pursue: (1) to maintain price stability. She thinks that slow growth and low inflation will be a challenge for financial intermediaries whose business models have been established in a dynamic-growth and high-inflation world. (2) to seek to develop consensus within the Governing Council and endeavor to communicate clearly and simply; (3) to improve the international standing of euro; (4) to carefully monitor and analyze new trends in Europe and beyond.
- Lagarde’s five major challenges ahead: (1) Weak economy and subdued inflation. Growth and inflation are undershooting ECB’s projections and Germany is on the verge of recession. Due to geopolitical risk, rise of protectionism and fragile emerging markets, market sentiment is deteriorating while risk of populism and “Japanification” of the economy is high. We believe it is less likely for Eurozone to see a significant improvement in economy and inflation level in the coming 1-2 years. Lagarde will need to flexibly utilize monetary policy tools and obtain more fiscal support from the member countries. (2) Unprecedented split among policymakers. More than a third of ECB policymakers including French and German central bank chiefs opposed the restart of QE, threatening the effectiveness of monetary policy. (3) Impact of negative interest rate policies. Negative interest rates are going to maintain for a long time, leaving few monetary policy ammunition to boost economy. Negative interest rate policies also harm bank profitability. To respond, banks have slowed down its lending and increased high-risk investment, which raises concerns for systematic risk of entire financial system. (4) Post-Brexit arrangements. ECB has done some preparations for various Brexit scenarios including the temporary licensing arrangement and currency swap arrangement between ECB and Bank of England, but there will be a lot of post-Brexit adjustments, requiring cooperation between ECB and its British counterparty. (5) Improvement of financial system. It is necessary for ECB to learn from lessons of financial crisis to improve financial environment and inflation transmission process, strengthen supervision, reform financial intermediation and enhance financial system to withstand shocks.
- European Central Bank’s monetary policy outlook. After a package of measures in Sep 2019, any major actions seem unlikely at the meeting in Oct 2019. However, it is necessary to pay attention to ECB’s attitude towards recent weak economic data, which may help set scene for next moves of ECB in Dec 2019. We expect ECB to cut the deposit interest rate by 10bp in Dec 2019 and to accelerate the pace of net purchases from early next year.
