Exclusive: ECB Insider: What Everyone Agrees Is That We Need to Take Action

20 September 2022

- ECB insider: Could easily picture second-round effects on wages, even if the economy weakens
- ECB insider: We see signs of increased inflation expectations in 2024
- ECB insider: 50bp in September would have undermined our credibility
- ECB insider: All the data show increased inflation all across the board in the coming years

By David Barwick – FRANKFURT (Econostream) – The fact that the European Central Bank Governing Council was able to reach unanimous agreement on a 75bp rate hike two weeks ago is understandable given the recognition by all members that the data demand action, according to an insider who spoke to Econostream about the September 8 meeting.

This person said that he ‘came to the meeting thinking that 75 was a done deal’, and indeed ‘couldn’t imagine’ another outcome, given that ‘everything was pointing to that we have intensified inflationary pressures’ with no signs of any near-term easing.

Monetary policymakers are of course ‘not targeting the short-term’, he said, but ‘people start getting used to that kind of [elevated inflation] levels, and … you may easily see the effects on the wages, even if the economy’ faces weakening ahead.

‘I understand why that was a unanimous decision. I think what everyone agrees is that we need to take action’, he said.

The 50bp hike decided by the Council in July was ‘a positive surprise’, he reasoned further. Had the Council this month limited itself to another 50bp step, ‘we would have had a negative surprise, and this would undermine our credibility.’ That was an important consideration, he said.

‘But even more important, this [necessity of 75bp] is what the data show’, he continued. ‘And all the data show that we have increased inflation forecasts all across the board in the coming years.’

Moreover, he said, ‘We see signs of increased inflation expectations in 2024, even with the market already incorporating the expected 75 basis points, implying that this is not the end of the story.’

As for the updated staff macroeconomic projections, this person indicated that he set less store by the ECB’s models than he had previously, but nevertheless found the results alarming.

‘What was important for me is that the baseline is showing 2.3% [HICP in 2024], and it increased in comparison to the baseline three months ago’, he said. ‘The adverse scenario was showing inflation even higher, 2.7% in 2024. So, if these bad assumptions are fulfilled, we have even more inflation.’

Among a multitude of data points, the Governing Council looks at a ‘mechanical update’ of the baseline scenario using the most recent data, and the latest mechanical update was also worrisome, he said.

‘Of course, we have many, many more models that are not used for the baseline result, because this baseline forecast is not an aggregate, but maybe just the best of the best’, he said. ‘But still, there are many other models that we can use, and they still point to inflation above 2%.’

While there may be a ‘huge margin of error’ when trying to forecast the medium term under the present circumstances, the inflation risks were clearly on the upside, he said.

‘So, all this complex of information shows that we need to do something’, he said. ‘That’s how we read the information.’

That included survey- and market-based information with respect to inflation, he said.