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| Speech by Jean-Claude Trichet, President of the ECB |
| Frankfurt, 29.12.2006 |
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| At the time of my previous appearance before the European Parliament in October, I described how the data then available had served to confirm our assessment that economic growth in the euro area was becoming more broadly based and increasingly supported by domestic demand. In addition, the cross-checking of our economic and monetary analyses underlined the existence of upside risks to price stability over the medium to longer term. In order to contain such upside risks to price stability and preserve the firm anchoring of longer-term inflation expectations, on 7 December the Governing Council of the ECB decided to increase key ECB interest rates by 25 basis points. Let
me explain the assessment underlying this decision and the outlook for the economy and risks to price stability.
Starting with the economic analysis, the main indicators of economic activity that have become available over the past few months confirm the Governing Council’s assessment that economic activity has continued to expand robustly, albeit moderating somewhat from the very strong rates seen in the first half of the year. According to Eurostat’s first estimate, the quarter-on-quarter growth rate of real GDP in the euro area for the third quarter of 2006 was 0.5%, driven mainly by domestic demand. This confirms the anticipated broadening of the recovery and points to the increasingly self-sustaining nature of economic expansion in the euro area. This assessment is also in line with available information for the fourth quarter.
Looking ahead to next year, the conditions remain in place for the euro area economy to grow solidly at rates around potential, with some volatility in the quarterly growth rates likely to emerge around the turn of the year on account of the impact of changes in indirect taxes in a large euro area country. Overall, global growth has become geographically more balanced and remains robust, providing support for euro area exports. Investment is expected to remain dynamic, benefiting from an extended period of very favourable financing conditions, balance sheet restructuring, accumulated and ongoing strong earnings, and gains in business efficiency. Consumption should also strengthen further over time as employment conditions continue to improve. This outlook for economic developments is reflected in the new Eurosystem staff macroeconomic projections (2.5 % to 2.9 % in 2006, 1.7 % to 2.7 % in 2007, 1.8 % to 2.8 % in 2008) and is also in line with recent forecasts made by international organisations.
The risks surrounding the outlook of sustained economic growth close to potential lie on the downside and relate mainly to the possibility of a renewed increase in oil prices, fears of a rise in protectionist pressures, and concerns about possible disorderly developments owing to global imbalances.
Turning to the price developments, annual HICP inflation rose to 1.9% in November 2006, from 1.6% in October. The lower annual HICP inflation rates recorded in the previous months mainly reflected the significant declines in crude oil prices from August onwards, as well as base effects. While the outlook for energy prices remains uncertain, overall inflation rates are likely to increase again in early 2007 and then hover around 2% in the course of that year and in 2008, also reflecting the impact of higher indirect taxes. The Eurosystem staff projections point to a rate of inflation of 2.1 % to 2.3 % in 2006, 1.5 % to 2.5 % in 2007 and 1.3 % to 2.5 % in 2008.
This outlook for price developments remains subject to upside risks, stemming in particular from a stronger than expected pass-through of previous oil price increases, as well as the possibility of renewed oil price increases and of additional increases in administered prices and indirect taxes beyond those announced and decided thus far. More fundamentally, given the favourable momentum of real GDP growth observed over the past few quarters and the positive signs from labour markets, wage developments could be stronger than currently expected.
Turning to developments in the monetary aggregates and credit, annual M3 growth was unchanged at 8.5% in October, remaining close to the highest rates observed since the introduction of the euro. Increasing interest rates have exerted some influence over monetary developments in recent months, although as yet mainly by triggering shifts among the components of M3 rather than constraining the expansion of M3 itself.
Taking the appropriate medium to longer-term perspective, the latest developments are consistent with a continuation of the persistent upward trend in the underlying rate of monetary expansion, identified by the ECB’s monetary analysis since mid-2004. Furthermore, following several years of robust monetary growth, the liquidity situation in the euro area is ample by all plausible measures. Continued strong monetary and credit growth in an environment of ample liquidity point to upside risks to price stability over the medium to longer term. Monetary developments therefore continue to require very careful monitoring, particularly against the background of improved economic conditions and continued strong property market developments in many parts of the euro area.
To sum up, annual inflation rates are projected to hover around 2% in the coming two years, with risks to this outlook remaining on the upside. In addition, given the ongoing strength of monetary and credit growth in an environment of ample liquidity, a cross-check of the outcome of the economic analysis with that of the monetary analysis supports the assessment that upside risks to price stability prevail over the medium to long term.
As I said on December 7, our decision to increase key ECB interest rates by 25 basis points on 7 December contributes to ensuring that medium to longer-term inflation expectations in the euro area remain solidly anchored at levels consistent with price stability, which is a prerequisite for monetary policy to make an ongoing contribution towards supporting sustainable economic growth and job creation in the euro area. Indeed, acting in a firm and timely manner to ensure price stability in the medium term is warranted. The Governing Council will therefore monitor very closely all developments so that risks to price stability over the medium term do not materialise.
As regards fiscal policy, the Commission’s autumn forecasts point to improving fiscal balances, but this can only partly be attributed to progress in structural consolidation, as higher economic growth and revenue windfalls are playing an important role. Moreover, in a number of countries with fiscal imbalances, adjustment efforts still fall short of what is needed to meet their respective medium-term objectives in a timely manner. It is therefore crucial that forthcoming updates of the stability programmes make sufficient headway towards safe budgetary positions in the countries concerned. For all countries it is paramount that pro-cyclical policies be avoided in the current economic upswing.
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