Underlying inflation may rise as energy prices decline, warns ECB’s Lane

Lower energy prices could pull headline inflation down even as underlying inflation increases, according to European Central Bank (ECB) Chief Economist Philip Lane. Speaking at the Bank of England and its Watchers Conference, he said “it would be a surprise if there are no second-round effects,” and warned that, if energy prices edge lower, “headline inflation could fall while underlying inflation rises,” he said.

On policy communication, Lane said he would put a “high bar on directional forward guidance now.” He also stressed that the ECB places a “very high premium on consensus” within the Governing Council.

TMGM Analysis: Financial Market News, Economic Calendar & Market Insights

Main points:

Consensus carries a very high premium for us; a dot plot would make that difficult

For directional forward guidance now, I would set a high bar

An ECB instrument to address multiple equilibria in the bond market is important

The lack of movement in underlying inflation is informative: it signals the usual delayed response

For inflation 1-year ahead, underlying inflation provides a guide

The reversal in energy prices has already begun; a continuation could bring headline inflation down even as underlying inflation increases

An absence of second-round effects would be surprising

Euro Exchange Rates Today

The Australian Dollar was the Euro's weakest counterpart today. Today's percentage changes in the Euro (EUR) against the major currencies listed appear in the table below.

	USD	EUR	GBP	JPY	CAD	AUD	NZD	CHF
USD		0.53%	0.75%	0.56%	0.50%	0.89%	0.53%	0.74%
EUR	-0.53%		0.21%	0.02%	-0.02%	0.36%	0.02%	0.21%
GBP	-0.75%	-0.21%		-0.19%	-0.21%	0.14%	-0.22%	-0.00%
JPY	-0.56%	-0.02%	0.19%		-0.04%	0.34%	-0.02%	0.19%
CAD	-0.50%	0.02%	0.21%	0.04%		0.38%	0.02%	0.23%
AUD	-0.89%	-0.36%	-0.14%	-0.34%	-0.38%		-0.36%	-0.15%
NZD	-0.53%	-0.02%	0.22%	0.02%	-0.02%	0.36%		0.20%
CHF	-0.74%	-0.21%	0.00%	-0.19%	-0.23%	0.15%	-0.20%

Percentage movements between the major currencies are displayed in the heat map. Select the base currency in the left-hand column and the quote currency in the top row. Selecting the Euro on the left and reading across to the US Dollar, for instance, gives the percentage change for EUR (base)/USD (quote) in the corresponding cell.

ECB: Key Questions Answered

The ECB's role and its impact on the Euro

Based in Frankfurt, Germany, the European Central Bank (ECB) serves as the Eurozone's reserve bank. Responsibility for the region's interest rates and monetary policy rests with the ECB. Price stability is its core mandate, with inflation kept at around 2%. Interest rate increases and cuts are the main means of pursuing that goal. A relatively high interest rate typically supports a stronger Euro; the reverse also applies. Monetary policy is decided by the ECB Governing Council, which meets eight times a year. The decision-makers comprise the heads of the Eurozone's national banks and six permanent members, among them ECB President Christine Lagarde.

Quantitative Easing (QE): How it affects the Euro

When conditions are extreme, Quantitative Easing (QE) is a policy option available to the European Central Bank. Under QE, the ECB prints Euros to purchase assets from banks and other financial institutions, typically government or corporate bonds. The Euro generally weakens as a result. Reserved as a last resort, QE is used when interest rate cuts alone are unlikely to deliver price stability. The ECB deployed it during the Great Financial Crisis in 2009-11, again in 2015 amid persistently low inflation, and during the COVID pandemic.

Quantitative tightening (QT): The implications for the Euro

Once an economic recovery is under way and inflation begins to climb following QE, quantitative tightening (QT) reverses that policy. With QE, the European Central Bank (ECB) supplies liquidity to financial institutions by purchasing government and corporate bonds. With QT, it instead ends further bond purchases and no longer reinvests the principal from maturing bonds in its existing holdings. The effect on the Euro is generally positive, or bullish.