The International Monetary Fund’s deputy representative to the European Union said Wednesday that interest rates in the euro area are expected to stay low at least until the end of 2016 and that a negative shock to the economy could result in a period of deflation.
Speaking at a conference at the National Bank of Belgium, Bergljot Barkbu said the fact core economies such as Germany and France have inflation rates below 1% was a “worrying point” and that interest rates in Europe would likely decouple with rates in the US, where investors expect the Federal Reserve to raise rates in 2015.
“Markets continue to expect prolonged period of low interest rates in the euro area. In fact we see that the policy rates in the euro area are expected to decouple from the US rates, spreading a differential,” she said.
She said the first interest rate hike in the US was expected in the third quarter of 2015 in line with the Federal Reserve’s forward guidance. She also said that the inflation rate in the euro would stay below the ECB’s medium-term price objective of around 2% at least until the end of 2016.
On deflation, Barkbu said that an unexpected shock to economy could send the euro area into a deflationary spiral.
“Several economies with high unemployment rates and large output gaps are seeing inflation of close to zero and we have five economies with inflation below zero,” she said. “A worrying point is that we have core countries with 0.9% inflation in Germany and with 0.7% in France…Even core economies are seeing very low inflation.”
“A negative shock could push the economy into some kind of low inflation or even deflation,” she added.
She explained that while low inflation in stress countries could be positive in terms of making them more competitive, low inflation in the region’s larger economies was a point of particular concern.
Asked about whether or not the ECB should consider unconventional tools such as quantitative easing, Barkbu said: “More monetary stimulus is need in the euro area, which includes the use of unconventional measures.”