The plunge in oil prices is making it tougher than ever for the European Central Bank to achieve its core mission of keeping prices stable at a time it faces looming deflation, analysts say.
In the short-term, the collapse of crude prices to five-year lows will curb inflation, AFP reported.
But in the longer term, the slump could boost growth, which in turn would reverse the stubbornly low inflation worrying the eurozone, economists say.
ECB president Mario Draghi voiced concern this month over the fall in oil prices as the Frankfurt-based central bank battles to boost low inflation of 0.3 percent dogging the single currency area.
Low inflation or even falling prices may sound good for the consumer but are not welcome from a central bank’s point of view.
They can trigger a vicious circle where businesses and households delay purchases, throttling demand and causing companies to lay off workers.
The ECB’s target for inflation is around 2.0 percent.
Draghi said the bank had stepped up preparations to undertake additional stimulus measures, on top of a raft of previous steps to help revive growth in the fragile eurozone economy.
But the oil price slump may actually provide the ECB with a helping hand down the line, by giving consumers and companies a bump at the petrol pump or in their oil heating bills.
Impact
The chief of Germany’s central bank, or Bundesbank, Jens Weidmann has described the impact of lower oil prices on Germany and the eurozone as being “like a small economic program”.
Economists at German bank M.M. Warburg see the benefit stretching even wider, with “a positive impact on the global economy”.
And Sylvain Broyer, chief economist at Natixis, said that, combined with the weaker euro against the dollar, the outcome could also help improve confidence and investment.
“It’s too early at this stage to see this,” he said, however.
Despite the ECB’s announcement that it is ready to act early next year should the euro area show signs of tipping into deflation, many are asking whether it wouldn’t be well advised to wait until the full effect of lower oil prices is felt.
Negative Territory
The ECB’s chief economist Peter Praet said last week that the central bank, whose mandate is solely to guarantee price stability, “may not have that luxury” of waiting.
Developments in the oil sector could nudge eurozone inflation into negative territory from this month, and possibly even lower in the following months, warned Commerzbank economist Christoph Weil.
Crude prices have collapsed by more than 40 percent since June, and are now trading around $60 – levels last seen five years ago, as increased US shale production adds to oversupply.
And the International Energy Agency said that global appetite for oil would grow at a slower pace in 2015 than earlier thought.
“For the ECB, the symbolic movement of inflation into negative territory would be far from negligible” in terms of image and credibility, Gilles Moec, of Bank of America-Merrill Lynch, said.
But he warned against being over optimistic about the impact of oil on growth, as well as against the ECB waiting until deflation or recession hit before taking more action.
Consumers may well cheer if oil prices remain low.
But, cautioned Praet, it would pose a considerable risk for inflation expectations, which are closely watched by the ECB in its bid to avoid deflation.
The ECB has already cut its interest rates to new all-time lows, made unprecedented amounts of cheap loans available to banks and embarked on asset purchase programs to pump liquidity into the financial system.
But it has also hinted at more radical action in the form of quantitative easing (QE), the large-scale purchase of government bonds and other securities.
The central bank will assess early in 2015 the impact of the oil prices on inflation in the medium term, it said in its monthly report released Thursday.
