Too early to declare victory over inflation, warns ECB chief economist

It’s too early to declare victory over inflation, European Central Bank (ECB) chief economist Philip Lane has warned.

He also predicted there would be a pickup in headline inflation across the euro area in December and that it would remain above the ECB’s target rate of 2 per cent for all of 2024.

Even though the energy price shock and the post-Covid bottlenecks are “behind us”, wages particularly in the services sector are still rising, he told an event in Dublin hosted by the Economic and Social Research Institute (ESRI).

Ahead of the ECB’s next rate-setting meeting in January, Mr Lane said: “Not everything is lined up. Some things are encouraging but so long as wages are still growing at that level... so long as we don’t see a uniform disinflation across the services industry, it is not the time to declare victory in any way.”

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His comments will dampen speculation that the ECB might begin reducing interest rates in the first half of 2024. Frankfurt remains more hawkish on rates than the US Federal Reserve which has already signalled the possibility of three rate cuts next year.

Despite euro zone inflation dropping more rapidly than expected – it has fallen from over 5 per cent in August to 2.4 per cent in November, Mr Lane said ECB policymakers were not yet seeing “persistent disinflation” and this was the chief concern.

Wage increases for existing workers remained strong “because there is a dynamic here of catching up to past inflation,” he said, noting the latest wage agreements were still quite high at 5-6 per cent. “Even though inflation has fallen, there’s a different timeline for wages,” he said.

Falling energy prices have been the main driver of disinflation this year but the energy market remained volatile, Mr Lane said, noting policymakers were monitoring the recent spate of attacks on ships in the Red Sea.

“Bottlenecks of any type are very problematic,” he said.

The former Irish Central Bank governor detailed the various data points that went into the ECB’s latest set of inflation projections, which see inflation falling from 5.4 per cent in 2023 to 2.7 per cent in 2024 and 2.1 per cent in 2025 on the back of “fading cost pressures and the impact of the ECB’s monetary policy”, reaching 1.9 per cent in 2026.

He noted that while consumption of contact-intensive services such as restaurants, hotels and tourism had fallen in recent months – after a rebound in the wake of Covid – reducing price pressures, inflation in non-contact-intensive services such as bank services had not decelerated.

“In the end we want to see more uniformity in disinflation,” Mr Lane said.

The ECB raised interest rates 10 times between July 2022 and September this year in the most aggressive sequence of rate hiking ever undertaken by the bank. Two of the European Central Bank’s most prominent hawks on Wednesday joined Mr Lane in dampening talk of upcoming rate cuts.

Bundesbank president Joachim Nagel and his Dutch colleague Klaas Knot both said the ECB needed time before declaring victory over historically high inflation.

“We must initially remain at the current interest rate plateau so that monetary policy can fully develop its inflation-dampening effect,” Mr Nagel said in an interview with German internet portal T-Online.

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