By Balazs Koranyi
FRANKFURT, May 1 (Reuters) – The European Central Bank may need to tighten policy, perhaps as soon as June, policymakers said on Friday, warning that the inflation outlook is deteriorating and the risk is rising that high price growth gets entrenched.
The ECB left interest rates unchanged on Thursday but debated hiking rates and signalled, in both on- and off-record comments, that higher rates would remain on the agenda as it fears an energy-induced inflation spike could persist beyond a one-off impact.
“From today’s perspective, the situation is evolving less favourably than in the earlier baseline scenario,” Bundesbank President Joachim Nagel said. “This makes it all the more appropriate for the Governing Council to respond in June if the outlook does not improve markedly.”
The ECB outlined a baseline, an adverse and a severe scenario for growth and inflation in March and even its most benign outlook assumed some policy tightening.
Estonian central bank chief Madis Muller also warned on Friday that the ECB’s 2% deposit rate may need to rise.
“We did not yet consider it necessary to raise interest rates this week, but it is increasingly likely that we will have to do so in the future,” he said in a blog post. “There are already signs that rising energy prices are being passed on to other products and services.”
The ECB can not lower energy prices but says it must act if this shock starts impacting other prices via second-round effects.
PROLONGED INFLATION?
Austrian policymaker Martin Kocher took a more cautious tone but he too warned that higher inflation, driven by surging oil prices from the Iran war, may be here to stay.
“The inflation outlook has deteriorated,” he said. “It is therefore possible that we are facing prolonged inflation.”
The ECB’s baseline projection outlined in March was based on market rates that assumed two rate hikes. Investors have grown more pessimistic since then, however, and now see three moves, with the first fully priced in by July and the second by September.
The shift in market sentiment came as oil prices hold near levels seen in the ECB’s adverse scenario and actual inflation is already at 3%, well above the ECB’s 2% target.
“We are aware of the risks to price stability and are ready to act at any time,” Nagel said. “Let’s not forget that the baseline scenario already entails a more restrictive monetary policy.”
(Reporting by Balazs KoranyiEditing by Alison Williams and Gareth Jones)
