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HERE'S WHY THE ECB SHOULDN’T FOLLOW A HAWKISH FED

Having moved in sync with one other - mostly for some time - interest rates in the United States and the euro zone look like they might diverge. Markets are pricing in just one 25-bps rate cut in the U.S. this year and three or four in the euro zone.

Yet the European Central Bank should not rush to mimic its U.S. counterpart, according to the bank's own economists, Stefan Gebauer, Georgios Georgiadis, Fédéric Holm-Hadulla, and Thomas Kostka, who have looked what happens when it does.

"When the Fed unexpectedly raises interest rates, euro area inflation increases on average over the three months following the announcement," they say, mentioning the inflationary effect of a weaker euro on consumer prices.

"Over time, however, the initial inflationary impact of higher policy rates in the U.S. is compensated by broader disinflationary pressures," they add, arguing that tighter U.S. financing conditions spill over to the single currency bloc.

"Over time, tighter U.S. monetary policy drags down euro area inflation much like tighter ECB policy would."

The bottom line is that by simply following the Fed, the ECB might avert a short-term spillover such as higher or lower inflation, but over the longer term, it risks an overtightening taking place, which could then make it undershoot its domestic inflation target.

(Stefano Rebaudo)

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