FRANKFURT (Reuters) – Euro zone inflation could exceed expectations in the short and medium term, and this outlook for price growth warrants an end to the European Central Bank’s emergency bond purchases next March, Dutch central bank chief Klaas Knot said on Thursday.
Inflation has surged this year on a long list of one-off developments but a growing number of observers, including the International Monetary Fund, warned recently that price rises could be stickier than once thought and may become more permanent.
“The risks for headline inflation are again tilted to the upside,” Knot said in a speech. “Upside risks, in the short to medium term, are mainly linked to more persistent supply side bottlenecks and stronger domestic wage-price dynamics.”
Knot, a hawk on the ECB’s Governing Council, argued that even if these upside risks do not materialise, the bank’s baseline projection alone warrants an end to the 1.85 trillion Pandemic Emergency Purchase Programme.
“The ECB’s current baseline scenario is consistent with ending the PEPP in March 2022,” he said. “While we are currently thinking about options to ease the transition out of the PEPP, incoming data should clarify how the risks surrounding our current inflation baseline will play out.”
Knot, however, appeared relaxed about the longer-term inflation outlook, playing down some market fears that prices would spiral out of control.
He argued that the inflation outlook was now “back on track” and market-based inflation expectations were putting price growth broadly in line with the ECB’s own 2% target.
“I very much welcome these developments,” Knot said. “Coming from a prolonged period of setbacks and deflation risks, this is good news.”
The ECB has undershot its inflation target for most of the past decade, despite unprecedented stimulus, including copious asset buys, subsidised loans to banks and deeply negative interest rates.
The bank’s baseline projection now sees inflation rising towards 4% at the end of the year before falling back under target in 2022.
(Reporting by Balazs Koranyi; editing by John Stonestreet)