© Reuters. FILE PHOTO: European Union (EU) flags fly in front of the headquarters of the European Central Bank (ECB) in Frankfurt, Germany, July 8, 2020. REUTERS/Ralph Orlowski/File Photo
FRANKFURT (Reuters) – The European Central Bank needs to see further progress in lowering underlying inflation and does not take too much comfort from the rapid drop in overall price growth, ECB chief economist Philip Lane told a conference in Riga on Wednesday.
The ECB raised interest rates to a record high over the past year and a half to arrest surging prices. Policymakers are now discussing just how long policy will need to restrict the economy before the bank is comfortable that inflation is heading back to its 2% target.
“You do see some progress (in underlying inflation), but not yet enough,” Lane said in a speech. “This is why we are in this period now of holding interest rates at a significantly high level until this process makes further progress.”
Overall inflation fell rapidly to 2.9% last month from over 10% a year earlier but Lane said he did not take “a lot of comfort” from this because the reversal of energy price increases from a year earlier was the main driver.
The rapid fall in prices is also likely over for now and inflation will be in the “high twos or low threes” in 2024 before a drop back to the 2% target in 2025, Lane added.
The ECB’s own survey of consumer expectations, published earlier on Wednesday, showed that price growth expectations over the next year rose sharply from the previous month but remained steady at just above the bank’s target for three years out.
A key condition for continued disinflation will be for firms to start absorbing some of the relatively quick wage increases and accept lower margins.
Corporate profit margins rose sharply during the period of quick inflation as companies increased prices well ahead of the increase in costs, taking advantage of the turbulence and building buffers against the possibility of more inflation ahead.
“We do need to see profits adjust,” Lane said. “The more firms absorb wage increases via lower profits, that will help inflation come down and in turn workers will not feel the need to ask for such high wage increases.”
