The European Central Bank said Thursday that there is no present risk of deflation in the euro area but cautioned again that a “too-prolonged” period of low but positive inflation reading may require an additional policy response.
In a supplement to its regular monthly bulletin, published in Frankfurt, the ECB said that deflation, as defined as a “broad-based and lasting decline in prices” that negatively affect economic growth is not an immediate threat to the euro area recovery.
“There is no evidence of an emergence of sustained and generalised price declines, and medium to long-term expectations remain well anchored,” the ECB Bulletin said. “In addition, the economic recovery is proceeding in the euro area, contributing to a gradual absorption of slack.”
The Bulletin explained that negative rates of inflation in individual member states did not, on balance, provide evidence of deflation and that such rates were a normal aspect of a functioning monetary union.
“In the euro area context, deflation risks must be analysed for the euro area as a whole, taking into consideration that, within a monetary union, negative inflation in individual countries may reflect relative price changes in order to regain competitiveness,” the ECB said. “When compared with historical episodes of outright deflation in advanced economies, the risk of deflation in the euro area appears remote at the current juncture.”
The report also noted the recent Staff Forecasts for inflation project a slow but gradual acceleration of HICP inflation in 2015 and 2016 (albeit at a slower pace than projected in March) and that the broader Eurozone recovery was holding firm and labour markets were improving.
“While structural reforms may initially lead to downward pressures on inflation rates, reflecting also supply-side improvements in the economy, inflation can be expected to pick up over time as aggregate demand gradually recovers,” the report said.
It also noted that advanced economies rarely suffer periods of outright deflation, highlight the cases of Hong Kong in the early 2000s and the prolonged deflationary spiral that gripped Japan from the mid-1990s until last year.
“In both cases, deflation was prompted by an unwinding of inflated asset prices,” the report said, adding that ” … in both episodes, deflation was broadly based, with continuously negative contributions from a large number of the underlying price components for goods and services. At the same time, both of these episodes of prolonged negative inflation rates were accompanied by stagnating economic activity.”
The supplement cautioned, however, that “although the risk of outright deflation in the euro area can thus be considered to be, at present, remote, too prolonged periods of positive but low rates of inflation may, under certain circumstances, also be a source of concern requiring an appropriate policy response.”