ECB warned to keep inflation within 2% ceiling
By Tony Major in Frankfurt and Ed Crooks is London
The European Central Bank should make greater efforts to keep inflation within its objective of a 2 per cent ceiling, according to an influential group of leading European economists.
In a review of the ECB's monetary policy strategy, the Centre for Economic Policy Research, which brings together academic economists from across Europe, says the bank has so far failed to achieve its price stability objectives, and should make sure that its declared strategy is backed up by interest rate decisions.
The report makes no specific recommendation about interest rate decisions, but implies that the ECB should be thinking about raising rates rather than cutting them. The authors say the bank has kept inflation expectations low because of its tough rhetoric, but warn that strong words are "no substitute for appropriate policy choices" to keep inflation in check.
They point out that inflation has exceeded the bank's 2 per cent price stability target for 32 months between the euro's launch in January 1999 and October 2003 - 55 per cent of the time - and they argue there is a substantial probability inflation will remain above this level in the future.
"Wim Duisenberg, the ECB's former president, said in 2000 that the bank would be a failure if inflation continued to exceed 2 per cent," said Harald Uhlig of Humboldt University in Berlin.
"If you take that statement literally, then you would have to say that the ECB has failed."
The report says the "drift" in inflation compared with the ECB's preannounced goals has undermined the bank's credibility, making it increasingly difficult for it to guide the expectations of investors and wage bargainers.
"Tough rhetoric without delivery has been a strategic mistake," it warns.
The economists accept that the bank's "fairly loose monetary policy" has helped counter weakness in the eurozone economy, but insist the tension between the bank's words and deeds will limit its future room for manoeuvre on policy.
Prof Uhlig said: "Inflation is adrift, and there is a danger that we will go from 2 to 2½ to 3 per cent. Once the genie is out of the bottle, it is very hard to put it back in."
He added that the inflation objective chosen by the ECB had probably been too demanding. But having adopted the objective, and failed to use the opportunity to change it in last year's strategy review, the bank had to try its best to deliver on its commitment.
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