Makhlouf outlines ECB policy response to supply shocks and uncertainty
Gabriel Makhlouf, Governor of the Central Bank of Ireland, discussed the challenges for inflation, growth, and monetary policy in a world of geoeconomic fragmentation. He outlined the ECB's data-dependent approach to supply shocks and the use of scenario analysis.
Navigating supply shocks with scenarios
Governor Makhlouf highlighted that geoeconomic fragmentation presents significant challenges for central banks, particularly regarding supply shocks.
He detailed how such shocks lead to higher energy commodity prices (direct effects), which then pass into broader supply chains (indirect effects), and eventually trigger wage adjustments (second-round effects).
Makhlouf emphasized the wide uncertainty surrounding the conflict's duration, which significantly impacts the shock's scale.
He presented three ECB staff scenarios: baseline, adverse, and severe.
Under the severe scenario, oil prices could peak at $145/barrel and gas at €106/MWh in Q2 2026, leading to headline inflation of 4.8 percent in 2027 and GDP growth falling to 0.4 percent in 2026.
The Governing Council remains committed to its 2 percent target but maintains a data-dependent, meeting-by-meeting approach.
Monetary policy in an agile framework
Makhlouf drew lessons from the 2021-23 inflation episode, suggesting that interest rates could have risen earlier and more forcefully.
He underscored the importance of the 2025 strategy assessment, which incorporates new data sources and explicit scenario analysis to convey uncertainties.
Scenarios, unlike forecasts, illustrate potential outcomes, guiding a robust monetary policy approach that performs well across various possibilities.
This aligns with President Lagarde's 'three cases' approach, which advocates for measured responses based on the shock's persistence and deviation from target.
Makhlouf cautioned against an overly mechanistic reading of data, emphasizing a data-dependent and meeting-by-meeting approach.
Vigilance on key indicators
The macroeconomic backdrop of early 2026 differs significantly from 2022, with inflation near target and a more balanced labor market.
Makhlouf outlined key indicators for monitoring direct effects, such as energy commodity prices and European gas storage levels (currently 28 percent).
For indirect effects, he highlighted producer price data and rising fertiliser prices.
Second-round effects are tracked via wage trackers and inflation expectation surveys, noting the need for vigilance against temporary shocks becoming persistent.