Monetary policy statement (with Q&A)
Central bank: ecb | Type: press_conference | Date: 2023-05-04

INTRODUCTORY STATEMENT

Good afternoon, the Vice-President and I welcome you to our press conference.
The inflation outlook continues to be too high for too long. In light of the ongoing high inflation pressures, the Governing Council today decided to raise the three key ECB interest rates by 25 basis points. Overall, the incoming information broadly supports the assessment of the medium-term inflation outlook that we formed at our previous meeting. Headline inflation has declined over recent months, but underlying price pressures remain strong. At the same time, our past rate increases are being transmitted forcefully to euro area financing and monetary conditions, while the lags and strength of transmission to the real economy remain uncertain.
Our future decisions will ensure that the policy rates will be brought to levels sufficiently restrictive to achieve a timely return of inflation to our two per cent medium-term target and will be kept at those levels for as long as necessary. We will continue tofollow a data-dependent approach to determining the appropriate level and duration of restriction. In particular, our policy rate decisions will continue to be based on our assessment of the inflation outlook in light of the incoming economic and financial data, the dynamics of underlying inflation, and the strength of monetary policy transmission.
The key ECB interest rates remain our primary tool for setting the monetary policy stance. In parallel, we will keep reducing the Eurosystem’s asset purchase programme (APP) portfolio at a measured and predictable pace. In line with these principles, the Governing Council expects to discontinue the reinvestments under the APP as of July 2023.
The decisions taken today are set out in apress releaseavailable on our website.
I will now outline in more detail how we see the economy and inflation developing and will then explain our assessment of financial and monetary conditions.
The euro area economy grew by 0.1 per cent in the first quarter of 2023, according to Eurostat’s preliminary flash estimate. Lower energy prices, the easing of supply bottlenecks and fiscal policy support for firms and households have contributed to the resilience of the economy. At the same time, private domestic demand, especially consumption, is likely to have remained weak.
Business and consumer confidence have recovered steadily in recent months but remain weaker than before Russia’s unjustified war against Ukraine and its people. We see a divergence across sectors of the economy. The manufacturing sector is working through a backlog of orders, but its prospects are worsening.The services sector is growing more strongly, especially owing to the reopening of the economy.
Household incomes are benefiting from the strength of the labour market,with the unemployment rate falling to a new historical low of 6.5 per cent in March. Employment has continued to grow and total hours worked exceed pre-pandemic levels. At the same time, the average number of hours worked remains somewhat below its pre-pandemic level and its recovery has stalled since mid-2022.
As the energy crisis fades, governments should roll back the related support measures promptly and in a concerted manner to avoid driving up medium-term inflationary pressures, which would call for a stronger monetary policy response. Fiscal policies should be oriented towards making our economy more productive and gradually bringing down high public debt. Policies to enhance the euro area’s supply capacity, especially in the energy sector, can also help reduce price pressures in the medium term. In this regard, we welcome the publication of the European Commission’s legislative proposals for the reform of the EU’s economic governance framework, which should be concluded soon.
According to Eurostat’s flash estimate, inflation was 7.0 per cent in April, after having dropped from 8.5 per cent in February to 6.9 per cent in March.While base effects led to some increase in energy price inflation, from -0.9 per cent in March to 2.5 per cent in April, the rate stands far below those recorded after the start of Russia’s war against Ukraine. Food price inflation remains elevated, however, standing at 13.6 per cent in April, after 15.5 per cent in March.
Price pressures remain strong. Inflation excluding energy and food was 5.6 per cent in April, having edged down slightly compared with March to return to its February level. Non-energy industrial goods inflation fell to 6.2 per cent in April, from 6.6 per cent in March, when it declined for the first time in several months. But services inflation increased to 5.2 per cent in April, from 5.1 per cent in March. Inflation is still being pushed up by the gradual pass-through of past energy cost increases and supply bottlenecks. In services, especially, it is still being pushed higher also by pent-up demand from the reopening of the economy and by rising wages. The information available up to March suggests that indicators of underlying inflation remain high.
Wage pressures have strengthened further as employees, in a context of a robust labour market, recoup some of the purchasing power they have lost as a result of high inflation. Moreover, in some sectors firms have been able to increase their profit margins on the back of mismatches between supply and demand and the uncertainty created by high and volatile inflation. Although most measures of longer-term inflation expectations currently stand at around two per cent, some indicators have edged up and warrant continued monitoring.
Renewed financial market tensions, if persistent, would pose a downside risk to the outlook for growth as they could tighten broader credit conditions more strongly than expected and dampen confidence. Russia’s war against Ukraine also continues to be a significant downside risk to the economy. However, the recent reversal of past adverse supply shocks, if sustained, could spur confidence and support higher growth than currently expected. The continued resilience of the labour market, by bolstering household confidence and spending, could also lead to higher growth than anticipated.
There are still significant upside risks to the inflation outlook. These include existing pipeline pressures that could send retail prices higher than expected in the near term. Moreover, Russia’s war against Ukraine could again push up the costs of energy and food. A lasting rise in inflation expectations above our target, or higher than anticipated increases in wages or profit margins, could also drive inflation higher, including over the medium term. Recent negotiated wage agreements have added to the upside risks to inflation, especially if profit margins remain high. The downside risks include renewed financial market tensions, which could bring inflation down faster than projected. Weaker demand, due for example to a more marked slowing of bank lending or a stronger transmission of monetary policy, would also lead to lower price pressures than currently anticipated, especially over the medium term.
The euro area banking sector has proved resilient in the face of the financial market tensions that arose ahead of our last meeting. Our policy rate increases are being transmitted strongly to risk-free interest rates and to the financing conditions for firms, households and banks. For firms and households, loan growth has weakened owing to higher borrowing rates, tighter credit supply conditions and lower demand. Our latest bank lending survey reported a tightening of overall credit standards, which was stronger than banks had expected in the previous round and suggests that lending may weaken further. Weak lending has meant that money growth has also continued to decline.
Summing up, the inflation outlook continues to be too high for too long. In light of the ongoing high inflation pressures, the Governing Council today decided to raise the three key ECB interest rates by 25 basis points. Overall, the incoming information broadly supports the assessment of the medium-term inflation outlook that we formed at our previous meeting. Headline inflation has declined over recent months, but underlying price pressures remain strong. At the same time, our past rate increases are being transmitted forcefully to euro area financing and monetary conditions, while the lags and strength of transmission to the real economy remain uncertain.
Our future decisions will ensure that the policy rates will be brought to levels sufficiently restrictive to achieve a timely return of inflation to our two per cent medium-term target and will be kept at those levels for as long as necessary. We will continue to follow a data-dependent approach to determining the appropriate level and duration of restriction. In particular, our policy rate decisions will continue to be based on our assessment of the inflation outlook in light of the incoming economic and financial data, the dynamics of underlying inflation, and the strength of monetary policy transmission.
In any case, we stand ready to adjust all of our instruments within our mandate to ensure that inflation returns to our medium-term targetand to preserve the smooth functioning of monetary policy transmission.
My first question would be on the rationale behind the reduced pace in the interest rate hike of 25 basis points – why did you come up with that?
My second question goes to the US regional lender banking crisis, which isn’t over yet. How concerned are you about potential spillover effects to the euro area?
Thank you for your question. I will take the first and ask my colleague and friend Vice-President Luis de Guindos to address the second one. So let me tell you a little bit about the mood in the room of the Governing Council. I would characterise the mood as determined – all governors are determined to fight inflation, tame inflation and return it to 2% over the medium term. And we all concluded, as you have seen, that the inflation outlook is too high and has been so for too long. I would say then that the mood was very focused and yet, it is an in-between-projections Governing Council meeting. But we were extremely attentive to all data that was available to us and obviously one case in point is the Bank Lending Survey that you all received or saw on Tuesday when it was published and which contains a lot of intelligence and information about the intention and the comparison between the lending practices and standards with what was expected by the banks. I’m happy to come back to that later, but it explains obviously the decision that we made for this 25 basis point increase.
I think in terms of method, we were method-dependent in many ways just as we are data-dependent, because we have articulated the reaction function of our monetary policy decisions, with the three key elements of the inflation outlook informed by the financial and economic data, the dynamics of underlying inflation and the strength of monetary policy transmission. So we checked all the data that we had against these three criteria. And as is always the case at the Governing Council meeting, there were a variety of views expressed and I think that it’s fair to say that everybody agreed that increasing rates was necessary; that second, we are not pausing, that’s very clear, and, third, we know that we have more ground to cover on the basis of the baseline that we had, which is still guiding us until we have our next projection exercise, and on the basis of the data that we have received in the course of the last few days and that we brought together during the meeting.
I think the ultimate balancing act, which received almost unanimous support and that is reflected in the monetary policy statement in front of you, was really predicated on the methods, the data we received, and the understanding that where we are is totally consistent with the baseline that we had for the outlook last time around. Remember, at the last March meeting that’s what I said. And second, that underlying inflation is still high and third, informed by the bank lending survey and the data that we have concerning interest rates, which is a little bit outdated because it goes back to February, the transmission of our monetary policy is working at least [with regards] to the financing leg and we are not yet certain about the next leg, which is transmission from banks to the real economy. So it’s on the basis of all that, that we made our decision. Now that we have increased rates significantly and sometimes by very large increments, establishing absolute credibility on our determination, it was sensible, in view of what I have told you, to return to a more standard increment, with the understanding that, based on the information we have today, we have more ground to cover and we are not pausing – that’s extremely clear.
De Guindos: Turning to your second question, I think that we should start with a consideration: if you look at the characteristics of the US banks that are running into difficulties, I think that there are some common features. The first one is that they are medium-sized, regional, they share very concrete and very idiosyncratic business models, and they are quite open to interest rate risks – they are vulnerable to an increase in yields. And I think that this model, this situation is not extrapolatable to the European banking industry. I will not repeat what we have said many times – that European banks are resilient [because of] their levels of capital, levels of liquidity and quality of the liquid assets – but I think that simultaneously, we have to remember that an increase in interest rates, in yields, is positive for the European banks because the increase in margins outweighs the potential losses that this increase in yields could cause in fixed-income portfolios. But I think that it is quite clear that there is no space for complacency. One of the things that we – all of us – have been surprised about is how rapidly a bank run can take place and how rapidly a bank can be emptied. And I think that this is the combination of new factors. The first one is digital banking and the second one is social networks. The combination of both have even led to a new situation. I think that as supervisors and regulators we have to bear in mind this new framework because we believe that this is going to be key in the near future.
My first question is about whether anyone at the meeting insisted on a larger rate hike or on a clearer commitment to more hikes. You just hinted at that by talking about “ground to cover” but it wasn’t quite as explicit as it was back in the winter when you were talking about “steady pace” and “several rate hikes”.
My second question is about something you just said, which is again that you had “more ground to cover”. Would you say that we are still in the middle of the journey or towards the end, in the home stretch?