The European Central Bank’s (ECB) chief economist Philip Lane said a likely cut to official interest rates next month will not be a “declaration of victory” in the fight against inflation, as high services prices continue to worry his organisation even as energy, food and goods price growth has tapered off.
Addressing the Institute of International and European Affairs (IIEA) on Monday, Mr Lane also refused to be drawn on the pace of further rate cuts, saying the ECB should not make any pre-commitments and stick to its mantra of a little over a year: that further moves should be data dependent and assessed meeting by meeting.
Mr Lane highlighted that various ECB governing council members, including himself, have signalled in recent weeks that it would be appropriate to cut rates on June 6th, “barring major surprises” on the inflation front. The ECB hiked its key deposit rate from minus 0.5 per cent to 4 per cent in the 15 months to last September.
Headline inflation has fallen back to 2.4 per cent as of last month, according to Eurostat, the European Union’s statistics agency, from a peak of 10.6 per cent in late 2022. The ECB’s official target is around 2 per cent. However, price inflation for services – a diverse category that spans hospitality and tourism to business-to-business transactions and transport – was running at close to 4 per cent in April.
“So, the discussion about having a rate cut next week is not a declaration of victory,” the Irish economist said. “There is still a lot of cost pressure in the European economy, we can maybe remove the top level of restriction but we’re not going to a normal situation this year. So, we’re still in the middle of this.”
Asked if the ECB had moved too late to raise rates in 2022 – months after other major central banks, including the US Federal Reserve and Bank of England acted – Mr Lane said that if the governing council had known earlier how inflation would pan out into last year “of course we would have moved earlier”. However, he said that a lot of the pressure on consumer prices had been driven the effects of the Ukraine war.
He said that while ECB staff recently published a working paper on this topic, the final evaluation “does depend on this job being concluded” to bring back inflation to target. The ECB currently sees this happening next year.
Mr Lane, a former Central Bank of Ireland governor, indicated he is taking comfort from the fact that euro-zone wage growth has been coming back over the past 12 months, following “jumbo pay settlements” between unions and companies last year. Central bankers globally have repeatedly warned in recent years about the cost of the 1970s wage-price spiral on wider economy.
“Over time, deceleration in wage growth is necessary in order for services inflation to converge to a rate that is consistent with meeting the 2 per cent target for overall inflation,” Mr Lane said. While financial markets had been forecasting at the start of this year that the ECB would cut official rates by 1.5 percentage points over the course of this year, they are now pricing in less than 0.75 of a point of reductions.
The Swiss, Swedish, Czech and Hungarian central banks have already reduced the cost of borrowing this year as a result of easing inflation. However, the Federal Reserve and Bank of England are not expected to cut rates before the summer.
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