We expect the ECB to lower its GDP growth projection for 2014 as growth has undershot the ECB's forecast in Q1. The lower projection should also reflect that the appreciation of the effective exchange rate will have a negative impact on economic activity.
We think a lower growth projection will be one argument for the ECB to ease in June. This follows as Mr. Draghi has said growth needs to exceed potential in order to close the negative output gap, which weighs on demand and inflation.
The negative output gap and the related large amount of slack in the labour market implies that although the unemployment rate has started to decline, wage growth will remain subdued. Consequently, core inflation should stay modest and the ECB will, in our view, not remain complacent again.
We expect the ECB to keep its growth forecast for 2015-16 unchanged. This should mainly follow as we believe it will try to tackle the worsening of the transmission mechanism through additional easing.
The ECB has put a lot of focus on weak bank lending and mentioned further impairments as one of the contingencies that would warrant a monetary policy response. In light of this, targeted LTROs or ABS purchases cannot be ruled out.
In our upcoming papers, we will analyse the ECB's new inflation projection followed by a consideration of ECB members' communication and an analysis of likely instruments together with their market impact.
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