European Central Bank won't overreact to fleeting inflation

European Central Bank head Christine Lagarde says Europe's monetary authority isn't about to “overreact” to temporary inflation by tightening policy

FRANKFURT, Germany -- Europe's current burst of inflation is temporary and won't lead the European Central Bank to “overreact” by withdrawing stimulus or raising interest rates, ECB President Christine Lagarde said Tuesday.

“What we are seeing now is mostly a phase of temporary inflation linked to reopening,” Lagarde said in a speech in Frankfurt, Germany opening the ECB's annual forum on central banking.

Lagarde reviewed reasons such as supply bottlenecks that have temporarily pushed up prices, and so-called base effects, the result of unusually low inflation in the year-earlier period due to very low oil prices and tax breaks during the depths of the pandemic. While longer-term forces could push inflation higher or lower, Lagarde was clear that the current round of higher readings would not budge the bank off its stimulus posture.

“The key challenge is to ensure that we do not overreact to transitory supply shocks that have no bearing on the medium term,” she said. She said monetary policy also need to keep “nurturing the positive demand forces that could durably lift inflation” toward the bank's goal of a sustainable 2%.

Annual inflation came in at 3% in August, but the ECB and private-sector economists predict that the figure will fall in 2022 as year-earlier comparisons drop out of the statistics. That has left the ECB looking through the recent price spikes that have accompanied the easing of restrictions imposed during the pandemic. The bank has not yet signaled a plan for exiting its extraordinary stimulus, which includes a 1.85 trillion euro ($2.15 trillion) bond purchase program slated to run at least through March 2022, nor for its record-low interest rate benchmarks of zero for lending to banks and negative 0.5% for overnight deposits the ECB takes from banks.

The economy in the 19 countries that use the euro rose 2.2% in the second quarter from the quarter before as the eurozone exited a double-dip recession. The ECB now thinks the economy will regain its pre-COVID-19 size by the end of this year, three quarters earlier than the bank predicted in December.