Fundamental Analysis – The ECB’s Governing Council Meetings

The European Central Bank (ECB) is one of the most influential banks in the world. After the Federal Reserve in the United States, the ECB, together with Bank of England, Bank of Japan, Reserve Bank of Australia and Reserve Bank of New Zealand, shape the monetary policies in their respective jurisdictions in a coordinated fashion. The Bank for International Settlements (BIS) based in Basel, Switzerland, has the role of the “mother of all central banks”. It helps to implement regional strategies and supervise the implementation of monetary policy. The ECB is an independent structure, not answering to any political party or forum, and it is rules over the euro, the common currency. The Eurozone is the area where the currency is the euro, and it is the Eurozone economies that are the object of the ECB policies. The euro as a common currency is the pillar of the single market, a market of 500 million people. The idea behind the European Union and the euro was to create unity among European nations and to avoid divisions. Such a project was designed to directly compete with the United States, China, and Russia on the global stage, as Europe realised that globalisation is a reality and European countries would have a better chance competing globally if they stood together. The European project is unique in many ways, and, if we look back through history, it might seem that it was doomed to fail. Yet it is not, and despite great adversities (Greek crises, Brexit, debt crises, etc.), it keeps moving forward. Since its beginnings, it was an ambitious project; although if you think of the euro as the common currency, there are some definite flaws to consider.

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Tasks of the ECB

The common currency, the euro, is used in countries with different economies. Germany is Europe’s engine, but the same currency is used in Greece as well. Different economies require different treatment from the ECB, which makes this central bank’s role extremely difficult. National banks are still in place, and they play an important role in relation to the ECB. They act like the local men on the ground, gathering statistics and information locally, so that the ECB may have enough information to take the appropriate decision at their next meeting.

The Governing Council

The ECB’s Governing Council consists of 25 members. There is one president (Mario Draghi these days, but his mandate will expire in 2018) who stands for a maximum of 8 years (two possible 4-year mandates), one vice-president (Vitor Constancio) and four members of the Executive Board. These four members  represent the most influential countries in the Eurozone: France, and Germany. It is said that the European Union is built on two pillars, France and Germany, as these two economies are the biggest ones in Europe. The other 19 members are the governors of the national banks that make up the Eurozone area. They are gather every 6 weeks to set the monetary policy for the Eurozone as a whole. Since 2015, minutes of their meeting have been made public. Before this date, records of their discussions were not publicly available, and this raised many questions in financial circles.
ECB Governing Council -1

Explaining a Meeting

Every 6 weeks, the monetary policy in the Eurozone is shaped by the Governing Council’s decisions. This may be an increase or a decrease in the rate corridor, or simply adding new tools to the monetary policy already in place. A central bank’s role is to stimulate growth, and, as a requirement for all capitalistic economies, inflation should be present. That is, a certain level of inflation, and not just any kind of it. The ECB’s mandate is to keep inflation below or close to 2%. Doing that is not an easy task, though, especially when inflation is far away from the target.

Throughout history, there are plenty of examples of periods of high inflation  in the world, and how central banks dealt with it. The most famous case people almost forget about is when the Federal Reserve of the United States raised rates to 20% to curb a high inflationary environment. It was under Volcker’s rule that this was done by the Fed, but it was based on the classic medicine: when inflation overshoots, rates are hiked. A much bigger problem appears when inflation is falling and threatens to break the zero level. What is to be done in such a situation? Deflation occurs when inflation goes negative, and it is more difficult to fight this.

When inflation falls, central banks cut rates. It seemed that below the zero level is a no-go for most central banks, but the last few years have shown that this is not necessarily true. In many parts of the world, rates are in negative territory, and the central banks are forced to apply monetary instruments and policies that are considered unconventional. In short, they’re trying to create inflation by any means. Now, this is a dangerous game that could backfire in the blink of an eye. While central banks say that things are in control and it is the only way to return to sustained growth, there is no evidence of that, as there is no precedent to such measures. This is the road the ECB is walking, and we’re all set to find out soon whether the path is the right one. The Governing Council tries to be as objective as possible, and to that end, voting is done via rotation. The six members of the Executive Board always cast a vote, while out of the other 19 members of the Governing Council, only 15 vote at a meeting.

Any decisions the Governing Council takes should be the result of a consensus. The split of votes, though, is not publicly revealed. However, when an important decision is taken, the press conference that follows will always see press representatives asking whether the decision was unanimous; and if not, who dissented, etc. It is at the president’s will whether or not those questions are answered. To give you an example, you should look at the Germany’s opposition to the current bond-buying programme the ECB is running. Germany didn’t agree with it, as German savers are still worried about the value of their currency. After losing all its value between the first and second World Wars, the German Mark left unhealed wounds on the German people. Bond-buying under a quantitative easing scheme is supposed to bring about inflation, and this is why Germany opposed it. At the press conference that followed the decision, the president was asked whether the decision was taken unanimously, and the answer was obvious. Nevertheless, there were enough votes to move forward with the programme, and here we are, years later, watching the ECB preparing the exit. Was the programme a successful one? Judging by inflation levels, it could be said that it was. The HICP inflation level, or the harmonised one, is close to the ECB target. The Governing Council did the job it was supposed to do, and is ready for the next task. Regardless of the shape of the economy, every 6 weeks this ruling body meets to assess it and to prescribe the right medicine.

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