The chief economist of the European Central Bank (ECB), Philip Lane, calls for calm just over a week before a new monetary policy summit in Frankfurt. After some members of the Governing Council of the institution publicly pointed out last week that a rate hike of 75 basis points was on the table and could even become convenient, Lane advocated yesterday, in a speech in Barcelona, for a “steady” pace in monetary normalization.
“A steady pace in monetary normalization, which is neither too slow nor too fast, is important,” the central banker explained.
One of the heavyweights of the monetary authority thus makes an appeal that is understood as a defense of a rise of 50 basis points, in line with the one already carried out in July.
The chief economist of the ECB understands that there are circumstances in which going faster may be convenient, but explains that they have not yet occurred.
“The worst possible scenario would be that long-term inflation expectations cease to be anchored, which would be very difficult to repair,” Lane said, noting that numerous surveys and indicators continue to suggest that economic agents believe that inflation will return to the 2% zone.
Therefore, in these circumstances and in an uncertain macroeconomic context, Lane advocates going step by step in raising rates. In his opinion, to reach the same destination, it is more appropriate now to do it with several climbs in different meetings than all at once.
The same rate hike over a period of time is less likely to create new risks to price stability if it takes the form of calibrated series of multiple hikes, rather than a smaller number of large hikes. At the same time, he pointed out that it is also better to let the financial system “progressively absorb changes in interest rates.”
Lane does not shy away from the difficult situation in the euro zone with inflation. According to her, “there are prospects for a prolonged phase before inflation returns to the institution’s target.” However, the economic deterioration and the elements that make up inflation – fundamentally the price of energy due to exogenous shocks – make the ECB’s chief economist think that it is better to fight it with a firm hand, but without rushing.
“Inflation is undergoing a push and pull of cyclical forces. On the one hand, companies and workers want to regain purchasing power and that should push prices up. On the other, the economic downturn weakens the ability to achieve this.” Lane argued.
For the central banker, inflation caused by an exogenous price shock is much less likely to generate inflationary spirals than those caused by strong demand.
Inflation expectations accompanied by economic downturn and uncertainty are less likely to be amplified through an endogenous increase in investment and consumption, he said.
“The worsening of the economic cycle limits the ability of companies to increase their prices without losing market share and also the ability of workers to obtain wage increases without affecting employment,” explained the chief economist of the ECB.
These macroeconomic circumstances of high uncertainty reinforce Lane’s position of discussing the size of the rate hike at each meeting without having a guideline set in advance, since it is easier to adapt and correct the pace in the face of changing reality. The European Central Bank, yes, must guarantee that it has “the capacity and the determination” to return inflation to the target area in the medium term.
