FRANKFURT (Reuters) – The European Central Bank should retain its focus on getting inflation to 2% in the medium-term as this allows for small, temporary deviations around its target, French central bank chief Francois Villeroy de Galhau said on Wednesday.
With inflation now almost back at target, ECB policymakers are discussing just how much flexibility they should have around 2% and they will embark on a review next year that may debate this topic, among others.
“Under a medium-term orientation a central bank does not have to react to short-term point deviations, but rather respond to inflation dynamics that risk pushing it off target,” Villeroy said in a speech at the London School of Economics.
“If inflation is above target, but converging at a sufficient pace, this may not call for action,” Villeroy said. “Maintaining inflation precisely on target 2.0% at all times is neither realistic, nor necessary.”
What matters, Villeroy argued, is not the level of deviation from 2% at any one point in time, but the trend and persistence of the likely fluctuation.
Inflation eased to 1.7% last month and could be on either side of 2% in the coming months, with many policymakers arguing they could declare victory over excessive inflation by the middle of next year.
However, a number of policymakers have already expressed concern, that inflation could be undershooting 2% further out, since growth is weak and the ECB is keeping interest rates tight.
For the ECB’s tolerance to work, it must clearly communicate what medium term means and how it will get back to target, Villeroy argued.
“A too vague medium-term objective without a clear roadmap is a blurred signal that would ultimately undermine credibility,” he said. “The counterpart of such flexibility is that it implies a clear communication about the horizon and the journey back to target.”
Villeroy also noted that various supply shocks could leave inflation volatile and in such cases, underlying figures provide better clues on actual price pressures and the bank can then raise the emphasis on such figures.
Still, headline inflation is the bank’s target and consumers understand this more clearly, so the ECB should not abandon its reference to main figure, he argued.
(Reporting by Balazs Koranyi; Editing by Sharon Singleton)
