The Iraqi war is muddying the outlook for Europe's economic recovery but investors should not expect a rate cut simply to counter these uncertainties, the European Central Bank's chief economist has said.
Dr Otmar Issing said the most important job for the central bank during geopolitical upheaval was to provide reassurance that it stands ready to ensure markets operate smoothly.
Meanwhile, it needs more time to determine how the war will affect growth and price stability.
"My main message is - contribute to strengthening confidence, which means showing that the central bank is up to the challenge. But it also means cautioning against exaggerated expectations," Dr Issing told a European Parliament committee. He added it was easy to make the ECB a scapegoat for weak growth at such times of unusual turbulence.
Dr Issing's remarks dented market expectations that the ECB, which currently has official rates set at 2.5 per cent, will ease credit soon.
"What Dr Issing has said is that they don't want to do anything when there is still so much uncertainty regarding the outcome of the war... that means that we can basically rule out a rate cut next week," said Ms Nathalie Fillet, senior interest rate strategist at BNP Paribas.
The ECB next meets on April 3rd to consider interest rates.
Most analysts expect one more rate cut by the end of June.
Dr Issing drove home his message of patience throughout his testimony before the European Monetary Affairs Committee, saying that after several weeks of war the central bank still would not be able to assess accurately how the economy would unfold.
He said the ECB's quarter-point rate cut earlier this month was not driven by the need to offset the uncertainty of the buildup to war, but by concrete economic data showing calming inflationary pressures and weakening growth prospects.
"Exaggerated expectations of what a central bank and a currency can do are also dangerous," Dr Issing said.
There are contrasting scenarios for how the war could affect the 12 nations in the €6.5 trillion euro area economy, he said.
"The pessimistic scenario foresees a strong and protracted increase in oil prices accompanied by a rather severe loss of confidence, giving rise to expectations of subdued demand," Dr Issing said.
On the other hand, a short war could lead to a faster recovery with market turbulence diminishing, he said.
Geopolitical turmoil has already caused the ECB to lower its growth forecasts to about one per cent this year, little better than the 0.8 per cent growth rate seen last year, from the 1.1 per cent to 2.1 per cent range it was expecting three months ago.
Dr Issing said the most important job at present for the ECB was to provide a steady hand and a cool head in uncertain times and evaluate events in the light of its mandate to promote growth through price stability.
While Dr Issing said that while he still expected growth to pick up later this year, the outlook for inflation was overshadowed by war.
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