Draghi’s biggest decision yet could come this week

The most-radical policy decision of Mario Draghi's two and a half years so far at the helm of the European Central Bank could hinge on a single piece of data. A weak inflation reading on April 30th will probably see the ECB president facing calls to act as soon as next week by imposing negative interest rates for the first time or pushing forward with plans for quantitative easing. A lower-than-forecast number would undermine the ECB's view that inflation should rebound as temporary distortions pass and the economy recovers.

Draghi has been increasingly explicit about what might prompt action if it doesn't, saying that broad- based asset purchases are possible should the medium-term outlook for prices worsen. "If inflation doesn't pick up from last month, then it's game over for wait-and-see," said Richard Barwell, senior economist at Royal Bank of Scotland in London. "I expect prices to recover from last month and the ECB to play for time if they can."

Estimates for April inflation range from 0.7 per cent to 0.9 per cent, according to a Bloomberg survey of 37 economists. Price gains have been below 1 per cent since October, compared with the ECB’s goal of just under 2 per cent, and March’s figure was the weakest in more than four years.

Should this week’s data miss estimates, the ECB is more likely to cut interest rates, according to Credit Agricole CIB. The benchmark main refinancing rate has been at a record-low 0.25 percent since November and the deposit rate at zero since July 2012. “If April inflation undershoots expectations, it would strengthen the case for early ECB action in May,” said Frederik Ducrozet, an economist at Credit Agricole in Paris. “The first step would be a cut in the refi rate and possibly a liquidity- easing measure. For QE, inflation needs to remain stable without rebounding.” Other indicators this week include confidence surveys tomorrow and unemployment on May 2nd. The picture is likely to be mixed. Economic confidence climbed to the strongest since July 2011, while the jobless rate held near a record high at 11.9 per cent, according to separate Bloomberg surveys.

The ECB left its monetary policy unchanged on April 3rd and Draghi told reporters afterward that fluctuations in energy prices and the timing of the Easter holidays “may well produce higher inflation” this month. The next rate-setting meeting will be on May 8th in Brussels. This week’s data “will be a very important element to see if there are again negative surprises, which would clearly show that there are more structural elements at work that we have underestimated,” ECB Governing Council member Luc Coene said in Amsterdam last week. Other policy makers have warned against rushing to a decision.

Bloomberg