The European Central Bank’s forecasts: Always look on the bright side

The ECB consistently paints too rosy a view of the future

JEAN-CLAUDE TRICHET, the president of the European Central Bank (ECB), claimed at his press conference on March 3rd: “I am not an optimist and I am not a pessimist. I am a realist.” Yet the ECB's forecasters have been persistently overoptimistic about economic prospects in the euro area. Time for a look at reality?

The ECB has once again reduced its forecast for growth. It now expects GDP to increase by only 1.6% in 2005 (taking the mid-point of its range). In December it was forecasting 1.9%; in September, 2.3%. It has also shaved its growth forecast for 2006 to 2.1%. Revising its forecasts downwards has unfortunately become a habit. The chart (based on an analysis by Julian Callow, an economist at Barclays Capital) shows forecasts for GDP growth in the euro area from 2001 onwards made by the ECB at different points in time. For example, in December 2001 it first forecast growth in 2003 at 2.5%. That figure was steadily trimmed; actual growth that year was a measly 0.5%. To be fair, consensus forecasts for the euro area have not been much better.

There is already a risk that the ECB may have to nudge its growth forecast lower again during this year. It currently assumes that the euro will stay at around $1.30, whereas many private-sector forecasters expect the currency to climb, making life harder for the euro zone's exporters. This week the euro rose to $1.34. The ECB has also pencilled in an average oil price this year of $45 a barrel; this week, it was around $55.

Yet despite disappointing growth prospects, Mr Trichet gave warning last week that the next move in interest rates is likely to be up. That may seem bizarre. Some economists reckon that the bank should instead be cutting interest rates: the euro area's inflation rate of 1.9% is now below the 2% ceiling of the ECB's target, and the bank forecasts that inflation will fall to 1.6% next year.

The ECB, however, insists that interest rates are still very low. The bank's hawkish tone also suggests that it is now leaning more on the old “first pillar” of its monetary policy - money and bank lending - the importance of which was downgraded in 2003. The bank is fretting about the rapid growth in money and credit.

Although there is no sign that excess liquidity is spilling into higher prices of goods and services, it is pushing up the prices of assets, especially residential property in several countries. House prices in France and Spain rose by 16% or more last year - although in the euro area as a whole, on which the ECB is supposed to focus, home prices rose by a more modest 8.5%, less than in America or Britain.

As a result, although the ECB talks tough and has been quick, unlike America's Federal Reserve, to sound warnings about potential property-market bubbles, it is likely to keep interest rates unchanged for now. Most economists think a rise improbable before the autumn. By then, the ECB will doubtless have changed its forecasts - up or down - yet again.

Article argues that the European Central Bank consistently paints too rosy a view of the future.

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