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Keeping inflation in check will become harder as trade tensions and other “structural shifts” make the world more volatile, the European Central Bank has warned.
European rate setters have reviewed their strategy after they were caught out by an unprecedented jump in inflation in 2021-22, partly due to the war in Ukraine. Inflation has slowed from its peak of almost 11 per cent in late 2022 and fell below the medium-term 2 per cent target last month.
“Structural shifts such as geopolitical and economic fragmentation and increasing use of artificial intelligence make the inflation environment more uncertain,” the ECB warned in a monetary policy strategy statement on Monday.
The ECB is keeping the medium-term 2 per cent inflation target that was introduced four years ago, stressing that it will fight “large, sustained deviations of inflation from target in either direction”. It vowed to apply a “forceful or persistent” response to do so, adding that it was bracing to fight “larger target deviations in both directions” in future.
The ECB has drastically changed its monetary policy since 2022. It first rushed to end its bond-buying programme and then raised interest rates from -0.5 per cent to a record high of 4 per cent within 14 months.
It then halved borrowing costs to 2 per cent since June last year as inflation moderated. Investors are betting on one more quarter point rate cut by the end of the year, according to Reuters data.
Interest rates will stay the preferred policy tool, but the ECB will keep the controversial bond-buying tools it introduced during the years of ultra-low inflation and negative interest rates and which dramatically inflated its balance sheet, it said. The document is the first review of its policy since 2021.
The central bank said it would keep the options to buy assets and to provide cheap, longer-running funding to banks — either to safeguard “the smooth functioning of monetary policy transmission” or when interest rates “are close to the lower bound”.
ING’s global head of macro Carsten Brzeski said that the ECB had given itself “a pat on the back”, adding that the update will “hardly have any new implications for the ECB over the coming months”.
