ECB: Current Oil Price Rise Implies 0.8% Loss in Euro Area Medium-Term Potential Output
1 August 2022
By David Barwick – FRANKFURT (Econostream) – The 40% rise in the price of oil incorporated in the latest European Central Bank staff projections implies a medium-term loss in Eurozone potential output of approximately 0.8%, the ECB said on Monday.
In a pre-release from the fifth economic bulletin of 2022, due out Thursday, the ECB compared the assumed oil price underlying the latest macroeconomic projections to the average of 2017 to 2020 and posited a 0.02% decline in medium-term potential output for every 1% increase in oil prices.
Against the backdrop of the 40% price increase, the potential output loss of 0.8% ‘constitutes a somewhat limited shock, which should be seen in the context of the cumulative increase in potential output, estimated by the European Commission to hover at around 5.2% for the next four years’, the ECB said.
‘Furthermore, this assessment appears to be consistent with other estimates, as previous work by the ECB suggests an elasticity of -0.02 for the long-term elasticity of GDP to oil prices globally, implying a similar effect of the current oil price shock on the long-term level of GDP’, the ECB added.
The ECB noted however that the outcome is subject to ‘considerable uncertainty’, concerning in particular the duration of the price increase and the response of policymakers. Futures prices are prone to high volatility, while tighter monetary policy in the wake of the oil price shock ‘can partially mitigate its persistence and reduce the medium-term effect on potential output by stabilising the macroeconomic cycle and firmly anchoring inflation expectations, thus limiting hysteresis effects’, the ECB said.
It is also not excluded that technological adjustment to the higher price of energy would take place faster than in the past, the ECB reasoned. ‘In particular, for transportation and household energy consumption, viable green alternatives exist that are far less dependent on oil’, the ECB observed.