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The ECB president warned that recent turmoil in the global economy could lead to lasting changes, raising inflationary pressures above normal levels and complicating the role of monetary policymakers.
Christine Lagarde speaks at the Federal Reserve’s annual meeting in Jackson Hole, Wyoming on Friday explain Central bankers must be “extremely careful that greater volatility in relative prices does not spill over into inflation in the medium term through repeated wage ‘chasing’ of prices”.
“If it is true that global supply, including labor markets, is less elastic, and global competition is less, we should expect prices to play a larger role in the adjustment,” Lagarde said. Shocks – such as energy and geopolitical shocks – we may see companies pass on cost increases more consistently.”
Her comments followed earlier comments by U.S. Central Bank Chairman Jay Powell, who warned that the Fed had not yet defeated inflation and that more rate hikes may be needed, although in the meantime proceeding “cautiously”.
Central bankers, especially those in advanced economies, are at a critical juncture in their respective fights against inflation. Growth in consumer prices has slowed from its recent peak in the wake of the outbreak, but remains well above the 2% target long set by many.
Coupled with concerns about an impending economic slowdown and tightening financial conditions, views on how to adjust monetary policy to ensure that inflation falls without causing unnecessary pain to businesses and consumers have become more divided.
After raising its benchmark deposit rate nine times in a row to 3.75% from -0.5%, the ECB left the door open for a pause in tightening at its next meeting on Sept. 14.
Recent business surveys suggest the euro zone is headed for a new downturn, prompting investors to hedge bets that the European Central Bank will raise interest rates again next month. But much depends on inflation and whether it continues to decline, especially after excluding volatile energy and food prices.
Lagarde, however, offered little indication of her preference, reiterating the need to “keep interest rates sufficiently restrictive for as long as necessary” to bring inflation back to target in a timely manner.
She said rate-setters needed clarity, flexibility and humility to deal with uncertainty from multiple shocks to the global economy, including the coronavirus pandemic and Russia’s full-scale invasion of Ukraine.
Euro zone inflation has already halved from last year’s peak of 10.6 percent and economists polled by Reuters forecast it would slow to 5 percent in August from 5.3 percent in July when new price data is released next week.
However, a rebound in European tourism this summer is likely to keep service sector inflation high. That would complicate matters for the ECB, which has said that underlying inflation, of which the services sector is a big driver, needs to fall on a sustained basis to halt rate hikes.
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