ECB Insight: On Inflation, Schnabel Has More Questions Than Answers

7 October, 2021

By David Barwick – FRANKFURT (Econostream) – The European Central Bank remains profoundly unsure about where inflation in the euro area is headed, and while Executive Board member Isabel Schnabel’s speech on Thursday offered an interesting recital of many reasons why, it served to highlight that uncertainty more than to shed any new light.

Speaking at a conference of the ECB and the Federal Reserve Bank of Cleveland, Schnabel dutifully reiterated the ECB’s baseline message of a temporary, pandemic-related inflation surge that authorities must ignore, lest they choke off the recovery by prematurely tightening the monetary reins.

Tending to be relatively open about the possibility of alternative outcomes, she by no means glossed over the fact that this scenario isn’t the only game in town, noting the ‘significant uncertainty’ about the ultimate persistence of upward inflation pressures and in particular whether the pandemic may have ushered in a new paradigm.

The current ‘significant uncertainty’ is of course not quite that of just weeks ago, when Schnabel spoke for example of ‘the significant uncertainty surrounding inflation projections many years out’. The new uncertainty is more immediate, has much less to do with the normal unpredictability of the distant future and is clearly biased in a direction to which the ECB is unaccustomed: upwardly.

This matters already for 2022, she said, suggesting that what is being seen now in terms of price dynamics may not ‘fully subside next year.’ Beyond the recovery itself, pandemic-related structural shifts could wind up ‘affecting inflation dynamics in the years to come’, she said.

Schnabel devoted a sizeable portion of her speech to two sources of uncertainty for the inflation outlook. With respect to one, expectations, she appeared cautiously optimistic, calling recent increases in market-based expectations in particular ‘a welcome development’, though she added, ‘so far at least’.

With regard to the other source of inflation uncertainty, namely pandemic-induced changes in wage- and price-setting behaviour, she essentially said over the course of ten paragraphs that the jury was still out and indeed had only just retired.

One can imagine that Schnabel hopes she won’t have to face too protracted a period of having to give speeches that make clear the extent to which the ECB is currently stabbing in the dark. Naturally, monetary authorities are hardly to blame for present circumstances, and must be dreading the prospect of making decisions while surrounded by questions rather than answers.

With a whole ten weeks to go until the Eurosystem’s macroeconomic projections are updated, perhaps the fog may still lift enough so that the next forecast exercise won’t seem too much akin to a guessing game that adds a further layer of complication to the process of reaching a consensus.

Given the magnitude of the decisions to be taken and then communicated, more than usual is riding on the outcome.