A stele bearing the inscription “European Central Bank – Eurosystem” stands in front of the European Central Bank (ECB), east of Frankfurt.
Arne Dedert | Alliance in pictures | Getty Images
With less than two weeks until the next meeting of the European Central Bank, the bloc’s policymakers appear undecided about the future of interest rates.
Financial markets currently anticipate a hold at the April 29-30 meeting, followed by an increase in June, according to LSEG data. The majority of traders expect the ECB’s key interest rate to reach at least 2.5% by the end of the year, a rise of 50 basis points or more from current levels.
Speaking to CNBC at the IMF’s spring meeting in Washington on Wednesday, Joachim Nagel, president of Germany’s Bundesbank, said oil price volatility had left the ECB “between our baseline and our downside scenario.”
“The whole situation is very opaque, very murky, and in two weeks we have to decide what to do next,” he said, adding that “data is coming in daily as information.”
Questions around the reopening of the Strait of Hormuz are at the center of uncertainty, Nagel noted, calling the critical waterway the “heel of the global economic system.”
“If there is more uncertainty ahead, that will also influence the decision we have to make when we meet in two weeks,” he said. “[A] The meeting-by-meeting approach is the right way to do it, and that’s how we’ve done it in the past. This becomes even more important on this very complicated day. »
Nagel suggested that policymakers were still considering the path of interest rates.
“It’s very important to really wait until we have all the information available on the day we have to make the decision,” he said. “And so this meeting-to-meeting approach is the best way to make or conduct monetary policy.”
Nagel said inflation was expected to hover around the central bank’s 2% target, but warned that continued uncertainty could force the ECB to respond if prices rose more than expected.
“We must keep the options as we do – monetary policy must not exclude anything,” he said, again pointing to the Strait of Hormuz as the key to decision-making.
“We have to be vigilant here… In terms of monetary policy, we still have to look at what happens in the next two weeks. In two weeks we can see a lot of new things coming, so I’m very cautious to give a proper indication what is the next step that we need to take on the monetary policy side.”
A “cake” of shocksMartins Kazaks, a Latvian central banker who sits on the ECB Governing Council, also told CNBC that policymakers were taking a meeting-by-meeting approach. Asked if April would be too early to raise rates, he said: “We’ll see.”
“What are we seeing in terms of, for example, the intensity of the price revision? How is this reflected in other parts of the economy?” he said, noting that core inflation did not increase in March for the eurozone.
The Kazaks told CNBC that the economic shocks of 2020 and 2022 – when the Covid-19 crisis and Russia’s full-scale invasion of Ukraine shook the global economy – had made central bankers more vigilant, with no one knowing exactly how the war would end.
“No one knows if this will be followed by other shocks, and the problem we’ve seen in 2020 and 2022 is that when the shocks come… it’s like a layer cake,” he said. “Shocks overlap, they interact. They can trigger certain nonlinearities. And for central bankers, I think it’s very important to be vigilant and careful and see what happens with these nonlinearities. If they manifest themselves, and I would sometimes call them second-round effects, then we have to act.”
Europe is currently in a “comfortable situation”, he added, but the Kazaks said officials need to monitor data printouts as the situation evolves.
“Eurozone markets are expecting two hikes, starting in June,” he said. “I have nothing against it at the moment. Let’s see how it develops. But of course, at some point we will have to keep our promises. These non-linearities are certainly the element that we should look at very carefully and, if necessary, act very quickly.”
At the end of March, ECB President Christine Lagarde said the central bank was prepared to raise interest rates, even if the expected rise in inflation proved temporary.
If the shock gives rise to a significant, although not too persistent, excess of our [inflation] “, Lagarde said at a conference “The ECB and its observers” in Frankfurt, Germany.
“Leaving such an overshoot unaddressed could pose a communications risk: the public might have difficulty understanding a reaction function that does not react.”
The ECB in “crisis mode” Carsten Brzeski, global head of macro research at ING, told CNBC in an email on Thursday that “the ECB’s ‘good place’ is no more.”
“Instead, the ECB is back in crisis mode, shifting its focus from long-term projections to actual developments, and returning to a ‘drive by sight’ approach,” he said.
The main variables to watch, according to Brzeski, include actual inflation data, long-term inflation expectations based on surveys and wage developments, which policymakers will weigh against the risk of slowing economic activity and financial stability concerns.
ING estimates that the ECB expects a first wave of inflation, starting with gasoline prices, followed by knock-on effects on transport costs, food and industrial product prices.
“As long as this is a single, time-limited wave, there is no need to raise ECB rates,” Brzeski said.
“The longer the blockade of the Strait of Hormuz lasts, the more likely it is that some sensitive points will be hit. This is why we now see the ECB announcing at least a hike in insurance rates. Some would go so far as to call this a political error.”
Antonio Alvarenga, a professor of strategy and entrepreneurship at the Nova School of Business and Economics, said ECB officials were more cautious and conditional than usual when it came to providing guidance.
“The ECB approaches the April decision with an unusually broad and contrasting set of plausible scenarios against a backdrop of weak growth in key economies, persistent inflation dynamics and new upside risks to energy prices from tensions in the Middle East,” he said in an email on Thursday. “In this environment, being very specific can be costly because facts can change quickly before the meeting.”
Alvarenga added that “traditional forward guidance on a likely trajectory has effectively disappeared,” with central bank policymakers turning to “reaction function” communication that retains maximum optionality for the next move.
“[The war] changes the type of advice that is credible. The best they can do is communicate contingencies: ‘if inflation expectations become unanchored or if energy-related second-round effects develop, we respond,’ rather than ‘here’s the trajectory of rates,'” he told CNBC.
“The trade-off for this approach is greater market volatility and greater dispersion of expectations. But from the ECB’s perspective, the biggest risk is being locked into a pre-announced path and then having to abruptly reverse it if the shock evolves.”