- Monetary policy should not be based only on oil prices
- ECB needs to assess whether energy shock spreads to inflation expectations, wages and core inflation
- It is worth preparing for a long conflict in the Strait of Hormuz
- If events had happened differently, it would have been easier to adjust
- The main factors are the strength and duration of the energy shock and any broader changes in inflation.
- Energy shock, at least so far, not equivalent to 2022 shock
- ECB remains committed to keeping inflation stable around 2% over the medium term
- Full report here
The ECB’s Rehan said that despite the uncertainty caused by the conflict in the Middle East, the ECB should not base its monetary policy solely on fluctuations in oil prices. Rehan said that although the current situation presents a stagflation shock with slow growth and high inflation in the short term, it is fundamentally different from the severe energy crisis of 2022. He cautioned against repeating the policy mistakes of 2011, where rate increases were quickly reversed in response to energy spikes as the broader economy weakened.
Rehan stressed that the central bank’s decisions will depend on whether higher energy costs translate into broader inflation through wages and long-term inflation expectations. While market-based inflation expectations remain near the 2% target and wages data have been reassuring so far, the ECB is monitoring closely for any signs that this temporary price rise could turn into sustained pressure.
Looking ahead to the ECB’s June meeting, Rehn indicated that policymakers would use updated projections and fresh data to assess the situation. They outlined three possible responses depending on the duration and severity of the shock, ranging from no action for a temporary increase to decisive tightening if inflation deviates significantly from target. Ultimately, he stressed that the ECB is not committed to any specific rate path and will continue to take data-driven decisions on a meeting-by-meeting basis to ensure medium-term price stability.
The market is currently estimating an 86% chance of a rate hike in June and a total of three rate hikes are expected by the end of the year. But as other ECB policymakers have noted, everything depends on the Strait of Hormuz. If we find a solution before June and oil prices fall significantly, the ECB will likely hold off on further increases.
