A senior European Central Bank official cautioned on Tuesday that inflation risks remaining significantly above target persist, even if a deal is reached to end the conflict in the Middle East.
In an interview on the sidelines of the ECB's central banking forum in Sintra, Portugal, Bundesbank President Joachim Nagel stated that inflation is likely to stay elevated.
He remarked that the effects of the energy price shock are still embedded in the economic system, and he anticipates the inflation rate will be substantially higher than the central bank's target.
This warning comes after U.S. President Trump announced on Monday that U.S. and Iranian delegations would meet on Tuesday in Doha, Qatar, following a weekend of clashes that strained a fragile ceasefire.
Earlier this month, citing inflationary pressures stemming from the U.S.-Iran conflict, the ECB raised its key policy rate for the first time since 2023.
Nagel affirmed on Tuesday that the rate hike decision was correct, but it is too early to determine the future path of monetary policy, given the high level of uncertainty surrounding the Middle East situation.
He explained that policymakers must wait and see, as the current outlook is very unclear, and stability in the region is not yet assured, with about 50 days needed to fully assess the reliability of the situation following the initiation of peace talks.
The conflict led to the closure of the Strait of Hormuz, a critical global oil shipping route, causing severe volatility in energy prices and driving up inflation in several major economies. Driven by double-digit increases in energy costs, eurozone inflation is estimated to have risen to 3.2% in May.
Speaking at an event in Sintra on Monday, ECB President Christine Lagarde noted that over the past 15 years, multiple extreme pressures, including the sovereign debt crisis and the Russia-Ukraine war, forced policymakers to deploy unconventional tools, but the focus can now return to conventional operations.
She told attendees that unconventional monetary policy instruments are no longer necessary. While such tools remain available, policymakers can now rely on policy rates as the primary instrument to stabilize inflation, allowing for measured and precise interest rate adjustments in response to various shocks without resorting to forceful interventions.
However, Lagarde added that the global environment for conducting conventional policy is fundamentally different from the past, marked by persistent geopolitical tensions and frequent economic shocks, exemplified by the targeted tariffs implemented by the Trump administration and the U.S.-Iran conflict.
She stated that current shocks are more supply-side in nature, and after the trials of the past 15 years, the European economy has developed stronger resilience.
Nevertheless, the world remains challenging and requires adaptation. The underlying policy logic has not changed, but the methods of implementation need to be updated, Lagarde concluded.
Data from London Stock Exchange Group indicates that markets are currently widely expecting the ECB to implement another interest rate hike in September.
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