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ECB's Lagarde, Panetta warn against tightening too soon

ECB shouldn't overreact to temporary inflation spike, Lagarde says
ECB shouldn't overreact to temporary inflation spike, Lagarde says   -   Copyright  Thomson Reuters 2021
By Reuters

FRANKFURT -European Central Bank President Christine Lagarde and board member Fabio Panetta on Tuesday urged patience before tightening the ECB‘s ultra-easy policy as the euro zone economy emerges from a pandemic-induced slump.

With price pressures steadily building on a slew of factors, from higher energy prices to supply bottlenecks, euro zone borrowing costs have risen in recent weeks as investors bring forward their interest rate hike expectations.

But Lagarde and Panetta stressed the ECB should not jump the gun.

“The key challenge is to ensure that we do not overreact to transitory supply shocks that have no bearing on the medium term,” Lagarde told an ECB conference.

“We will only react to improvements in headline inflation that we are confident are durable and reflected in underlying inflation dynamics,” she told the ECB Forum on Central Banking. “We see no signs that this increase in inflation is becoming broad-based across the economy.”

Panetta later added that the ECB should “effectively support aggregate demand, avoiding premature actions that could drive up bankruptcies”.

Overnight index swaps price in a 10-basis=point rate hike three years from now, compared with five or six years down the line as recently as late August.

Inflation could rise as high as 4% by the end of this year, twice the rate of its target. But Lagarde argued that price growth will then quickly sink back below the bank’s target and languish under its 2% objective for years to come.

“The fact that inflation can move moderately above target for a transitory period allows us to be patient about tightening policy until we are certain that such improvement is sustained,” she said. “We still need an accommodative monetary policy stance to exit the pandemic safely and bring inflation sustainably back to 2%.”

Adding to her case for patience, wage growth remains muted and unemployment is not expected to fall below its pre-crisis level until the second quarter of 2023.

A big policy move is still expected in December, when the bank is likely to decide to end a 1.85 trillion euro pandemic emergency stimulus scheme. The big question then will be whether more standard measures will be ramped up to pick up the slack.