BY SWAHA PATTANAIK

Christine Lagarde has given a masterclass in diplomacy since taking the helm of the European Central Bank in November. But even her considerable peace-making skills will be challenged in the coming year. Disagreements will erupt in 2020 between rate setters who are fed up of ultra-loose policies and those who are convinced that the euro zone economy needs more help.

The discord will be over a big ECB strategy review that will, among other things, look at how the central bank’s treasured price stability mandate is defined. Unlike, say, Britain, where this definition is spelt out by politicians as an inflation rate of 2% with some margin of error, the ECB can set – and move – its own goalposts. Since 2003, the central bank has interpreted price stability as meaning inflation that is close to but below 2%. Before then, it simply aimed for less than 2%.

The review that led to the change didn’t cause much in the way of ructions. But this time will be different. How the mandate is defined will determine how loose monetary policy will be in the future. Those who oppose sub-zero rates or asset purchases may therefore back definitions that would strengthen their case.

For example, Austrian central bank chief Robert Holzmann has expressed a preference for a lower inflation target, of 1.5%. That would make it harder to justify ultra-easy monetary policy. So would a switch to an alternative measure of price pressures that includes owner-occupied housing costs, since the inflation rate that is being targeted would be higher. Or the ECB could focus on actual price levels, rather than the annual rate of change. In this case, a protracted period of weak inflation would require monetary policy to remain looser until the undershoot was eliminated. Focusing purely on core inflation, which excludes volatile food and energy costs, would also militate for easier policy.

A major change could destabilise the euro zone. A shift towards tighter monetary policy could cause investors to sell the debt of weaker countries, like Italy. But a looser framework could infuriate savers in northern Europe. With so much at stake, the battle is likely to be bitter and played out in public.

First published Dec. 11, 2019

IMAGE: REUTERS/Francois Lenoir