The International Monetary Fund’s chief economist, Olivier Blanchard, said the Eurozone faces a real risk of deflation, according to excerpts of an interview with German daily Handelsblatt released Monday.
Speaking after the European Central Bank last week kept its monetary policy stance unchanged, Blanchard sounded a cautious note on whether the ECB should take further easing action, arguing that boosting credit demand and cleaning up bank balance sheets in the southern Eurozone members remains key.
“The ECB has lowered its benchmark interest rate almost as far as possible. There still remains some room for an expansive monetary policy within its mandate. However, what the central bank alone can achieve is limited.”
Blanchard said the Eurozone’s economy was beginning to develop positively but warned the risk of deflation in particular remains, reiterating remarks made at the IMF’s last update of its World Economic Outlook in January.
“In our baseline scenario inflation remains positive, also in the Eurozone. But the risk of deflation, especially in the Eurozone, is definitely there,” Blanchard said.
Blanchard warned that even in southern periphery nations including Portugal and Spain, deflation should be seen as a “double-edged sword” as it not only improves competitiveness but increases these countries’ real debt burden.
“The danger is that the second effect will dominate the first, which could lead to lower economic output and further deflation,” Blanchard said.
Overall, Blanchard said the risks stemming from the ultra-low interest rates of central banks should not be “overstated.” While some markets may be seeing some heightened risk, such cases were generally the exception, he said.