By Balazs Koranyi and Bart H. Meijer
AMSTERDAM, March 6 (Reuters) – The surge in energy prices this week is not yet enough to move European Central Bank policy from what is currently a “good place” and the bank can in any case tolerate a small overshoot of its inflation target, Dutch central bank governor Olaf Sleijpen said.
The ECB has learnt lessons from the 2021/22 inflation surge but must be careful in drawing too many parallels to the current situation since the Iran war-related energy shock is fundamentally different, Sleijpen told Reuters in an interview.
Oil and gas prices soared this week as war in the Middle East disrupted supplies, boosting inflation expectations and raising some fears that the ECB would have to tighten policy to stop price growth from going too high and getting entrenched.
“While I would not use the word nirvana or Goldilocks anymore, I haven’t dramatically changed my view on where we are, which is still a good place,” said Sleijpen. Before the U.S.-Israeli war with Iran broke out last week, he had called the current environment of low inflation, neutral rates and respectable growth a central banker’s nirvana.
“I’m still in the good place … but everything depends on how this conflict will develop,” he said.
Even if policy does not change at the March 19 meeting, the ECB should discuss the sensitivity analysis around its new projections or consider alternative scenarios, he argued.
SMALL OVERSHOOT CAN BE TOLERATED
Sleijpen also said the ECB could tolerate a modest and temporary overshoot of its 2% inflation target, much like it was tolerating figures below 2% over the past several months.
“We should be consistent and we are symmetrical,” he said. “We do not put a higher weight on either under or overshooting.”
Market expectations have been volatile this week but investors now see a 1 in 2 chance the ECB would have to raise rates by the end of the year to contain price pressures.
Economists are still trying to model how the recent oil price surge could impact euro zone prices. Early estimates suggest that persistently high energy prices could lift inflation to the neighbourhood of 2.5%.
The risk then is that such a jump gets entrenched as firms start adjusting their pricing and wage-setting mechanisms, perpetuating high inflation.
These fears are fuelled by the experience of 2021/2022, when central banks around the world considered price rises transitory and reacted late, allowing inflation to move into double-digit territory, the highest in decades.
Sleijpen said that episode had lessons for the ECB but the comparisons are not valid since the environment is different, not least because monetary and fiscal policies are already tighter.
“One of the lessons of that period is that we need to be aware of the risks around supply side shocks,” he said.
“They are difficult to manage from a monetary policy point of view and may have an impact on inflationary dynamics at a certain point, where the central bank has to react. This is an important lesson.”
TRUST IN FED LEADERSHIP
Sleijpen also pushed back on arguments that the ECB should review its reliance on its U.S. counterpart given Washington’s unpredictable economic policy.
Central banks around the world rely on the U.S. Federal Reserve to provide dollar liquidity in times of crisis and Sleijpen said he had no doubts about the Fed’s commitment to such a facility.
“I have a lot of trust in our relationship with the Fed’s current leadership when it comes to this particular arrangement,” he said. “And I also have similar trust in its future leadership.”
He also said there is no reason for the Dutch central bank to reconsider storing some of its gold reserves at the New York Fed.
For a Q&A of this interview, click here.
(Reporting by Balazs Koranyi and Bart H. Meijer; Editing by Susan Fenton)
