ECB must maintain inflation vigilance; wages a worry: Smets

By Balazs Koranyi and Robert-Jan Bartunek

BRUSSELS (Reuters) - Ultra-low euro zone inflation requires continued vigilance from the European Central Bank but any change in staff forecasts next month would not automatically trigger policy action, Governing Council Member Jan Smets said.

Already approved measures need time to be implemented so patience is warranted, even if weak underlying inflation and subdued wage growth require the ECB to stand ready provide more stimulus in case of another negative shock, Smets said in an interview.

Facing the risk of ultra-low inflation, the ECB is printing over a trillion euros for asset buys, hoping to prevent weak price pressures from feeding into wages and entrenching a hard-to-break cycle of deflation.

As oil prices plunged, the ECB cut rates, expanded asset purchases and proposed cheap corporate loans in March, worried that markets are losing faith in its commitment to its target.

"Subdued readings in both headline and core inflation remain an important point of concern, especially in light of the modest (economic) recovery," Smets said. "Wage growth has also shown a downward trend, even though unemployment is coming down."

Economists have said that poor wage growth may suggest that low oil prices are already having a second-round impact, making it harder to coax back inflation.

"Inflation expectations remain depressed. Vigilance is still warranted," said Smets, who is also the head of Belgium's central bank.

The ECB next meets on June 2, when it will also review fresh economic projections. It is widely expected to keep its policy stance unchanged, with ECB President Mario Draghi and Vice President Vitor Constancio both having argued that recent measures need time to work.

"We have taken a large number of unconventional policy measures so one might argue, given where we are coming from, that some patience is required to let the current measures work and see the results before doing anything else," Smets said.

The first sale of ultra-cheap loans, called targeted longer-term refinancing operations (TLTRO), is set for June. Smets cautioned against judging it based on volumes only as it will have a wider ranging impact on funding costs and banks' ability to lend.

"In case of additional unfavorable shocks, implying that previously passed measures would not be sufficient, the ECB would act again and we have the tools to do so," Smets said. "We have to get back to close to 2 percent."

NO TRIGGER

Still, such action would not be automatic even if the bank lowered its inflation projections as the Governing Council looks at a wide array of indicators, also analyzing the underlying reasons of forecast changes.

"If the inflation forecasts are lowered in June, we don't have to automatically act on it. Medium term doesn't mechanically coincide with the projection horizon," Smets said.

The ECB forecasts inflation through 2018, when it expects a 1.6 reading, below its objective of close to but below 2 percent.

"Our actions are data dependent, all sorts of data, not only our projections," Smets said.

With Britain voting in June on whether to leave the European Union, markets also expect the ECB to stay put, preparing for potential market turbulence.

"One thing we can be sure about is that the issue (of Brexit) is increasing uncertainty and volatility in markets, both before and after the referendum," Smets said. "It may cause a lot of pain, economically, for Britain but also for the rest of Europe."

"I personally hope Britain remains in Europe because I consider it to be a very important and appreciated partner in the European Union," he added.

Even as inflation hovers near zero and risks remain on the downside, growth has been better than the ECB expected, Smets said. It has been supported by domestic consumption and unexpectedly strong investments.

Euro area GDP expanded by 0.6 percent in the first quarter, the best reading in five years

"My impression is that there are signals that conditions are becoming more favorable and the upturn in investment is not just a blip," he said. "Monetary policy is supportive, profit margins are continuing to recover, and demand prospects are improving.

"Growth prospects, looking at surveys, consensus forecasts, and the European Commission's spring forecasts, are better," Smets added. "It's nothing to be exalted about, but it's going in the right direction."

(Editing by Tom Heneghan)

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