However, leaving his position in a time like 2019 could mean that his successor will face a different set of challenges. One will be analyzing the extent to which the ECB can normalize policy rates before the U.S. and also before the eurozone economics fall into a recession. Another challenge Draghi’s successor will face is calibrating the instruments through which the ECB implements its monetary policy. This is not the end to the problems and challenges as there could be tensions of the U.S. Federal Open Market Committee (FOMC) raising the fed funds rate to 3.4% by the end of 2020.
Analysts following macroeconomic trends claim, “We tend to think the market overestimates the extent to which the ECB can normalize policy rates. Gross exports of goods and services made up 47% of eurozone national income in 2017. Europe’s dependence on external demand will limit the extent to which the ECB can raise rates beyond zero once global growth slows down.”
The ECB will have to use its balance sheet to counter deflationary pressure when confronted with the next recession since it will have limited scope to cut policy rates. With policy rates nearing zero during the next downturn, one way for the ECB to lower its term structure of interest rates would be to receive interest rate swaps while buying private sector assets. Lowering its term structure will also reduce firms’ borrowing costs, but as long as the eurozone lacks a centralized fiscal capacity, banks and their sovereigns will stay interlinked.
With all of this in mind, Europe’s unconventional policies and low levels of interest rates are likely to persist. Investors in the eurozone short-term markets should expect a new phase of unconventional monetary policies in the near future.