Europe: Economic Recovery Expands Policy Space to Deal with Inflation


■ As the underlying inflation rate remains high, the European Central Bank recognizes the need to continue to raise interest rates significantly
■ The possibility of avoiding serious recession increases, and there is more room to maintain the inhibitory policy interest rate

    Yesterday, the minutes of the meeting of the European Central Bank (ECB) Management Committee held on February 2 were announced. At its meeting on February 2, the European Central Bank Management Committee decided to raise the policy interest rate by 0.50%, stating that it would implement an additional 0.50% increase at the next meeting of the Management Committee in March, and assess the trend of the follow-up monetary policy. In other countries such as the United States, as inflation peaked, more and more central banks are slowing down the pace of interest rate increases. However, the European Central Bank has made it clear that it will maintain its stance of curbing inflation and continue to raise interest rates significantly
    In the minutes of the meeting, the European Central Bank assessed that compared with last December, the short-term price outlook became more balanced, and the current policy interest rate level was in a neutral range, expected to reach 2%. It is clear that the central bank recognizes the need to significantly raise interest rates and maintain policy interest rates at this level in order to achieve an early return to the inflation target. It was also confirmed that although participants reached broad consensus on the need to continue tightening monetary policy, they were cautious about policy communication after March. In order to avoid "commitment" to future policies and clarify the "intention" of short-term monetary policy, the statement seems to have been revised.
    The euro zone consumer price index (HICP, up 8.5% year-over-year) released yesterday slowed for the fourth consecutive month, but the core HICP excluding food, energy, alcoholic beverages and tobacco (up 5.6% year-over-year) has accelerated the pace of growth for the third consecutive month. Although the European Central Bank expects the inflation of energy, food and commodities to slow down, it is expected that wages will increase strongly in the next few quarters, and that in the foreseeable future, the service industry, which has a relatively high proportion of labor costs compared with commodities, will remain high. Many indicators indicating the potential inflation rate are still at a high level, and it is impossible to confirm that the inflation trend has improved. In an interview on February 28, European Central Bank President Ryan said that the criteria for ending the interest rate increase were (1) expected inflation passivation in the forecast period of the next three years, (2) the actual key inflation rate passivation, and (3) the conclusion that financial policy played a role. It said that it would remain unchanged for several quarters after the policy interest rate peaked, and would not immediately adjust even if the underlying inflation slowed significantly. The financial market has also digested the expectation that the monetary policy will be extended to the middle of next year. The yield of German two-year treasury bond has risen to 3.2%, the highest level since 2008. The increased possibility of avoiding a deep recession is considered to give the European Central Bank more policy room for manoeuvre to maintain its policy interest rate at a restricted level.