Monetary policy: Lagarde and German financial elite argue over inflation risks
Frankfurt Exchange of blows between the ECB and the German financial elite: While the CEOs of the largest German private banks are calling for a break from the long-term low interest rate policy at a financial conference in Frankfurt, ECB President Christine Lagarde currently sees no need for this.
“In view of temporary and supply-related inflation shocks, we must not be tempted to tighten monetary policy early,” said the Frenchwoman at the European Banking Congress. Deutsche Bank boss Christian Sewing immediately contradicted this. Sewing said he expected the surge in inflation to last longer than the central bank had predicted. “In that regard, I think the central bank should respond sooner than we just heard.”
Prices have been rising significantly for months. In Germany, consumer prices rose by 4.5 percent in October compared to the previous year – in the euro area the inflation rate, calculated a little differently, was 4.1 percent. Lagarde admitted that the current price hike was hitting people on low incomes hard. In their view, an early tightening of monetary policy would “only worsen the pressure on household incomes”.
The ECB President reiterated her statement that she believes an interest rate hike in the coming year is unlikely. She pointed out that monetary policy only affects the economy with a time lag. Therefore, from their point of view, it does not make sense to react to a temporary inflation shock. Such a move would only have an impact on the economy after the shock had passed.
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In addition, Lagarde currently sees supply bottlenecks as an important price driver, i.e. insufficient production capacities for certain goods such as chips. With this problem, tightening the financing conditions is rather counterproductive.
Decision on bond purchases in December
According to Lagarde, given the unprecedented situation caused by the pandemic, it is currently “difficult to predict when the current inflation drivers will ease”. However, it reiterated its view that a large part of the surge in inflation can be explained by special factors that should gradually weaken again over the next year.
Whether the rise in inflation is temporary or sustained plays a decisive role in the monetary policy stance of the ECB. In December, the central bank will decide how to proceed with its massive bond purchases in the next year. Some council members warn of inflation risks and are therefore pushing for faster tightening.
Bundesbank President Jens Weidmann warned at the event that the ECB should not commit itself to the currently very loose monetary policy line for too long. If inflation expectations and wages rise more strongly, further inflation is possible. “It could well be that inflation rates will not fall below our target in the medium term as previously forecast,” he warned.
Commerzbank boss anticipates a challenging year 2022
Prominent representatives of German banks see it similarly. From the point of view of Deutsche Bank boss Sewing, there are several reasons for longer-term, higher inflation. The spread of the delta variant of the coronavirus will further affect global supply chains and will definitely lead to inflationary trends into the first half of 2022, Sewing said. In addition, the corona crisis has ongoing consequences for the labor market. “There are personnel bottlenecks – in the financial sector, but also in the economy in general.”
In addition, there is structural inflation that is often underestimated. The increased efforts for more climate protection led to higher energy costs. “It will stay that way beyond 2022,” said Sewing, who is also president of the German private banking association BdB. For the European banks, the negative interest rates in the euro zone are a competitive disadvantage compared to US banks, which benefit from a better interest rate environment.
Commerzbank boss Manfred Knof assesses the situation similarly. “We assume that inflation will remain and that this will be a challenge in the future.” Many Commerzbank customers complained about rising energy costs.
In addition, it is unclear how much the global delivery bottlenecks and the fourth corona wave will affect the German economy in 2022. “That’s why I’m one of those people who think it will be a challenging year,” said Knof. He was also concerned about the growing tensions between the West and China and protectionist trends in the global economy, since many German companies are heavily dependent on exports.
BNP boss finds “endless discussion about inflation” out of place
Jean Lemierre, head of the major French bank BNP, assesses the situation much more positively. Inflation always meant growth, and that was a good thing, he said. “Instead of having an endless discussion about inflation, let’s discuss growth!”
Many of his customers in Europe wanted to invest or adapt their business models. “They see the future positively and don’t talk about inflation and costs all the time.”
ECB President Lagarde attributes the current price surge largely to temporary factors. One of them are mechanical so-called base effects. Inflation in the first pandemic year of 2020 in the euro area was just 0.3 percent. Compared to the very low values of the previous year, it has now picked up.
According to estimates by the Bundesbank, the withdrawal of the VAT cut from last year in the second half of 2022 also contributed around 1.2 percentage points to higher inflation in Germany.
More than half of inflation can be attributed to energy prices
More than half of the price increase in the euro area was also due to higher energy prices. In October these rose by 23.7 percent compared to the previous year – the highest increase since the beginning of monetary union.
Here Lagarde expects that the increase will not continue at the current level. “While energy prices are expected to remain elevated over the coming months, they should stabilize over the course of 2022,” she said. This pattern was common in the past after steep climbs. The prices for oil, gas and electricity on the futures market would already point to a future price decline.
The ECB President sees another reason for the current high inflation in the changed consumer behavior after the pandemic. There has been some shift in demand from services to manufactured goods. For example, people would have canceled their gym membership and bought more exercise equipment to use at home. From Lagarde’s point of view, all of these factors are largely temporary. On the other hand, she emphasized that wage developments have remained weak so far. From their point of view, that will only change gradually.
More: The big inflation bet of the ECB – Is central bank chief Lagarde underestimating the risks?