By Marta Vilar – LONDON (Econostream) – European Central Bank Executive Board member Isabel Schnabel said on Thursday that the ECB should not wait for wage growth to accelerate before responding to the inflationary effects of the energy shock linked to the Middle East conflict, warning that doing so could mean reacting “too late.”
Speaking during a Q&A session after her speech at the London School of Economics, Schnabel said that although the standard monetary policy response to a temporary energy supply shock would normally be to look through it, the current situation required closer scrutiny of whether price pressures were beginning to spread more broadly across the economy.
“One of the key questions that we now have to ask ourselves is whether this energy price shock kind of remains more or less constrained to the energy price shock or whether it significantly broadens to other parts of the economy,” she said.
To achieve that, policymakers needed to monitor indirect and second-round effects from the shock, she said, adding that companies’ ability to pass higher costs on to consumers depended heavily on the strength of aggregate demand.
“If the economy already entered the recession … the pricing power of the firms will be relatively limited and the ability to pass through the high cost to the prices will be limited,” she said. “And that could mean that the policy response is not needed.”
The ECB also had to monitor inflation expectations and wage setting, according to Schnabel.
Wage negotiations, she said, would depend on the resilience of the economy, but monetary policy would need to intervene if higher costs began feeding through more broadly into prices and wages.
“Because, if we see … that the higher costs are being passed through and that the wages do increase, that is then the sign that monetary policy has to react not only to send a signal, but actually to constrain aggregate demand by making it harder to pass through the higher cost and to negotiate higher wages in the end,” she said.
Schnabel said the ECB was already observing sharply higher energy prices alongside rising inflation expectations and selling price expectations, although wage growth had not yet accelerated. However, she said that wages typically reacted with a lag.
“If we wait for that to materialize, we will in any case be too late,” she said. “So we have to take a stand on whether the dampening of the aggregate demand is strong enough to prevent the price pressure from broadening beyond the energy crisis.”
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