Inflation in the 19 countries that use the euro stands at 5.8 percent a year, the highest since statistics began in 1997, and is expected to rise further in coming months.
The European Central Bank (ECB) said on Thursday it will make an early exit from its economic stimulus efforts as it battles record inflation that threatens to rise further as energy prices soar during Russia’s war in Ukraine.
The move was a difficult choice because the invasion has also exposed Europe to a potential hit to economic growth. But the ECB singled out higher inflation as the biggest threat, surprising many analysts who expected no changes to the bank’s roadmap for the coming months.
The bank kept its options open and could modify its stimulus output depending on what happens with the economy, President Christine Lagarde said. That is difficult to answer at this time due to the great uncertainty about the effect of the war.
“The outlook for the economy will depend on the course of the war between Russia and Ukraine and the impact of economic and financial sanctions and other measures,” he said.
“At the same time, other obstacles to growth are now receding,” Lagarde said, noting signs that some of the supply bottlenecks that have held back business are showing “signs of relief.”
He said the effect of sharply higher energy prices could be “partially cushioned” by savings people were unable to spend during the pandemic restrictions.
The bank’s 25-member governing council headed by Lagarde decided to end its bond purchases in the third quarter. Previously, he said he would reduce them to 20 billion euros ($22 billion) a month for the last three months of the year and continue as long as necessary.
The purchases are aimed at keeping borrowing costs low for companies and promoting business investment and hiring.
But the bank did not advance its timetable for a first rate hike, abandoning a promise that rates would rise shortly after the end of the bond purchases. Instead, he said only that the rate changes will come “some time after” the end of the shopping and “will be gradual.”
During a press conference, Lagarde refused to clarify whether an interest rate hike was possible this year. After the end of the bond purchases, “it could be the next week and months after,” she said, depending on inflation and growth.
“The ECB has signaled that it is more concerned about a further sharp rise in inflation than the negative impact on demand that will result from the war in Ukraine,” said Andrew Kenningham, chief Europe economist at Capital Economics.
Inflation in the 19 countries that use the euro stands at 5.8 percent a year, the highest since statistics began in 1997, and is expected to rise further in coming months. The bank sees inflation well above its 2 percent target throughout this year, but to fall to 2.1 percent next year.
The European bank is still trailing the US Federal Reserve, which will raise interest rates several times this year, starting with a modest hike next week after inflation hit a 40-year high of 7.9. percent.
Recovery from the pandemic recession has been delayed in Europe, which only reached pre-pandemic output levels late last year, far behind the US, where stimulus and support spending was higher.
The European bank’s roadmap includes ending a €1.8 trillion purchase program this month and transferring some of the purchases to an existing program that will now end earlier than planned. The bank used the purchases to support the economy during the coronavirus pandemic.
He had been assuming that high oil and gas prices and pandemic supply bottlenecks were temporary. But that equation is changing as inflation appears to be worse and longer lasting than originally expected. Fears of oil and gas outages have pushed already high energy prices even higher, leading to predictions that inflation may only rise in the short term.
On the other hand, economic growth is at risk in the eurozone because Europe is more exposed to war on the continent and is more dependent on Russian oil and gas than on the US and China.