DWS: now it's time for the governments

Comment by Ulrike Kastens, DWS

"The ECB has once again delivered and surprised in its decisive will to expand monetary policy. The most significant decisions concern the resumption of the purchase programme of government bonds (20 billion euro per month) and the change in forward guidance (steering market expectations by communicating its longer term views on monetary policy). The new purchases are expected to go on until shortly before the ECB starts to raise interest rates again – whenever that might be. Interest rates will remain at the current - or at a lower - level until the inflation rate converges "robustly" against the ECB's target inflation rate of 2 percent. In other words, for a very long time, because against the backdrop of the weakening economy, inflation looks set to still take a long time to march in the direction of the ECB's target. This assumption is shared by the ECB which lowered its inflation projections.

Government bond purchases are thus becoming a permanent instrument. Lower deposit rates, the introduction of a two-tier deposit rate system and improved conditions for long-term tenders round off the package. The latter will support banks in Southern Europe in particular.

However, entering this even more expansionary policy phase of keeping interest rates lower for longer entails considerable risks. It continues to provide extremely favourable financing conditions in the euro area. At the same time, however, the risks from negative side effects are also increasing, including price bubbles in real estate markets, and continuing pressures on private pension systems. The side effects on financial stability will be greater still, especially as the low-interest policy phase will continue for a very long time to come. The new ECB President looks set to pay close attention to those risks. Otherwise, public support could well erode. And an unsettling question remains: What happens if, contrary to expectations, the economy slides into recession? Monetary policy has reached its limits and is now handing over the baton to fiscal policy."