Axel Weber versus the Vigilantes

In his FT interview, Axel Weber said the ECB will make less use of code words like "vigilant", now that the rate cycle is getting closer to its peak. So what is he trying to tell us? Is he talking about a new communication strategy? Of course not. He is telling us something that is glaringly obvious: He is saying that rates must be getting closer to their peak!

 

The interesting question is: why did he announce the end of the ECB's "vigilante phase" now, and not after the next rate rise in June? The only explanation is that rates may well peak at 4% after all. As interest rates reach 4%, the monetary policy decision making process becomes more difficult. So far in the present cycle, there has been a great deal of clarity and unanimity. But as we approach the peak, the situation becomes more complex, and the views become more diverse. And that means that no single word captures what's going on.

 

Note however: Weber's interview included some hawkish comments, for example, that a positive output gap could lead to a build-up of endogenous price pressures. We at Eurointelligence believe that the ECB would do well to pause for a while, and take some cues from the US economic performance in the second half. But, of course, we are not in a position either to exclude the possibility that rates might go above 4% if the euro's exchange rate remains broadly at current levels, if the economic expansion were to continue at the same speed, and if there are even the faintest signs of cost-push pressures building up.

 

 

Eurointelligence Complete Guide to Central Bank Communication

What constitutes good communication? Most non-economists would probably say that the quality of the communication depends on those who communicate. Some do it better than others. In fact, that sums almost everything up you will ever need to know about central bank communications, if it had not been for the awkward fact that economists, who usually dominate this debate, have discovered many more complicated and wrong answers to this question.

 

Whether you publishing minutes, as the Bank of England does, or whether you hold a press conference, as is the case with the ECB, is a matter of taste and tradition. We could not care less. What matters to us is whether we understand how the monetary policy process is working at the moment. At this particular time, the true intentions of the UK's monetary policy committee remain well hidden, while the ECB's view of the economy is relatively clear. It has not always been thus. And it will probably change again some time in the future. Central bankers are human beings too. This means that no single system is inherently superior, just as there is no perfect political system. The consensus is in favour of publishing minutes, and publishing votes - and that can be a fine strategy. The Constitutional Monarchy is also a fine system - though you may not necessarily want to recommend as the best system for every country in the world.

 

There is only one thing that matters in monetary policy communication - to give the public an idea of the monetary authority's analysis and range of views. Since the members of the committee are intelligent people, with an overproprotionate number of economists among them, the chances of disagreement are close to 100% on any day. So communication has to be able to bridge the gap the committee's consensus (or majority) analysis, and the range of views. Not easy this, under any system.

 

This means that it is logically impossible to reduce the analysis to a single code word like vigilant. The ECB has used this word to steer expectation during the upward shift in the rate cycle. The Federal Reserve did a similar thing during the same phase. Once you are where the Fed is today, and where the ECB will be in a few months time, it will no longer be easy to characterise the policy stance as vigilant or otherwise. You have to use words, and some are better this than others. Greenspan is evidently better at it than Bernanke, Trichet better than Duisenberg. King is better than Trichet and Duisenberg together, and yet communication problems can build up. Where the Bank of England recently went wrong in its communication is not in the way it drafted its minutes, but the way it drafted its policies. When a central bank lets the rate of inflation creep up, then it makes a louder statement that words could ever make up for.

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