ECB’s Lagarde: We Will Look Through Potentially Higher Inflation This Year

11 March 2021

By David Barwick – FRANKFURT (Econostream) – The European Central Bank will disregard an increase in inflation this year that could potentially see HICP breach the ECB’s 2% price stability threshold, ECB President Christine Lagarde said Thursday.

At the press conference following the ECB’s policy meeting, Lagarde declined to attach a figure to the promise to buy assets at a noticeably faster pace over the coming quarter.

‘It is possible that this year, particularly at the end of 2021’, Eurozone HICP will exceed the below-but-close-to-2% definition of price stability used by the ECB, she said. ‘But … we will see through that for a very clear reason’, namely that such an increase would be ‘because of some technical and temporary reasons.’

Lagarde cited the rollback of last year’s German VAT reduction; the adaptation of the reflection basket of goods to reflect changed consumer behaviour; ‘idiosyncratic factors’ in Italy and France; and energy prices.

‘So for all these reasons that are, we believe, temporary, technical … we will see through that’, she said. ‘And it is important for us to see what happens next’, in the medium term, she said, where ‘we’re clearly seeing subdued inflation.’

Subdued medium-term price pressures reflected weak demand, economic slack, feeble wage pressures and the euro's strength, she said. ‘So for all these reasons …in the third year we are still at 1.4% , which is far away’ both from the path of inflation envisaged before the pandemic as well as from price stability, she said.

The ECB’s updated staff forecasts continued to project HICP of 1.4% in 2023, as in December, while raising the projections for 2022 (to 1.2% from 1.1%) and 2021 (to 1.5% from 1.0%).

In the light of today’s decision that asset purchases made over the next quarter under the pandemic emergency purchase programme (PEPP) would be ‘conducted at a significantly higher pace than during the first months of this year’, Lagarde explained the ECB’s failure to address rising yields until now by saying that ‘[t]his is clearly a monetary stance decision and requires the involvement of the Governing Council’, which was just ‘a few days away’ from its monetary policy meeting today and the updated staff forecasts.

Lagarde warned observers not to ‘expect a huge big rise Monday’ in PEPP purchases. Although the ECB would start immediately to implement the decision, she said, [t]he real pace on a weekly basis … is not going to be strongly visible this Monday.’

The ECB had no precise quantity in mind with regard to what would constitute a significantly higher pace of purchases, she said. Rather, authorities are guided by their commitment to preserving favourable financing conditions and by the PEPP’s flexibility, which is ‘the cornerstone of PEPP’, she said.

However, the ECB is ‘not bound by any specific number’, she said, adding that the Governing Council’s decision was ‘by total consensus, by the way’. The period of a quarter to which the decision to significantly accelerate asset purchases applied ‘conveniently coincides with the staff forecasts’ and would thus facilitate the ECB’s desire ‘to counter any downward pandemic effect’ on inflation, she said.

Lagarde sought to explain what for the ECB constitutes financing conditions. Its ‘holistic’ assessment of these means ‘we cover the whole chain of transmission’ from upstream variables, mainly meaning risk-free interest rates and sovereign yields or ‘where our monetary policy can be most efficient’, she said, ‘to the downstream aspect of the credit terms, and that clearly includes a multiplicity of rates.’

The ECB does not ‘operate mechanically’, she said. ‘We look at all the indicators … and it’s also important to be multifaceted because there are some downstream components that are not necessarily going to be influenced by upstream.’

As for how the ECB measures favourability, she said, ‘[w]e refer to a joint assessment of how financing conditions and our inflation outlook have evolved … and we look at the main drivers.’

The inflation outlook remains the anchor, and financial conditions the compass, she said.

As in her introductory statement, Lagarde termed the increase in yields as ‘undesirable’. The ECB’s counter was ‘not focusing on any particular segment of the yield curve’, she said. The 10-year segment was ‘not the only one, and we will look at the entire yield curve … as I said, it’s holistic.’

The ECB is also ‘not doing yield curve control’, she said.

Asked whether anyone on the Council had advocated increasing the size of the PEPP envelope, Lagarde sidestepped the question, referring to the ECB’s decisions with regard to the PEPP since its introduction as ‘quite spectacular’.

She reiterated that the ECB could fail to deploy the entirety of the PEPP envelope or, ‘equally’, recalibrate it once again.

Risks to growth were ‘more balanced’, she said, though she highlighted the downside risks to the near-term outlook. GDP growth in the area would reach 4.0% this year, 4.1% next year and 2.1% in 2023, she said, only slightly revised from December projections calling for 3.9% in 2021, 4.2% in 2022 and 2.1% in 2023.

The U.S. stimulus was not taken into account for the forecast exercise, not having taken all hurdles yet, she said. ‘We believe that the Biden plan is actually going to have an impact’, she said, referring to U.S. President Joseph Biden. ‘It will have an impact, external demand will have an impact on our growth projections and that will be reflected in three months’ time.’

The ECB did not target ‘any particular exchange rate for the euro’, she said, ‘but equally we monitor very carefully’ its movements, ‘because clearly they have an impact on economic activity and the outlook for price stability in the euro area.’

Lagarde said the euro’s movements had been ‘quite volatile lately’.