Sleijpen: Inflation outlook a 'Chimera' of geopolitics, trade
Olaf Sleijpen of the BIS discussed the complex, multi-faceted nature of current inflation drivers, likening the economic environment to a mythological Chimera. He highlighted geopolitics, trade developments, and energy prices as key interacting forces for monetary policy.
Disentangling the inflation Chimera
Sleijpen introduced the concept of the economic environment as a 'Chimera' – a monster combining dangerous traits, making it difficult to confront and understand.
He emphasized that today's monetary policy challenge is to distinguish persistent inflationary forces from temporary shocks, given the combination of geopolitics, trade developments, and energy prices.
The latest ECB projections, published last week, reflect this uncertainty, showing near-term growth revised down but remaining resilient, while core inflation has been revised up due to services strength and cost pass-through.
The projections suggest upward risks to inflation, with optimal monetary policy simulations indicating a rate hike is warranted even in milder scenarios.
Tariffs, energy, and expectations
Tariffs imposed in 2025 created both upward and downward pressures on euro area inflation, making their net effect uncertain, especially amid unprecedented trade policy uncertainty.
While weaker external demand and a stronger euro exerted downward pressure, supply chain disruptions from trade reshuffling could gradually increase input costs.
Energy prices, driven by geopolitical tensions, are another key source of uncertainty.
Unlike 2022, demand conditions are more subdued, and oil prices have not reached initially feared levels, with market expectations pointing to a declining path.
However, the risk of second-round effects remains.
Ultimately, how these shocks feed into inflation depends on expectations, which are broadly anchored but show increased dispersion and sensitivity to shocks across different groups.
Vigilance amid a complex reality
Monetary policy faces the demanding task of distinguishing persistent inflation from temporary shocks in a complex, interacting environment.
Policymakers must look beyond immediate price changes to identify signs of persistence in broader dynamics.
While expectations remain broadly anchored, increased dispersion necessitates continuous monitoring and vigilance.