ECB’s Dolenc said the European Central Bank’s rate hike gives policymakers enough flexibility to respond to the ongoing Middle East-driven energy shock.
He emphasized that given the high uncertainty around how severe and long-lasting the energy shock may be, the current interest rate level allows the ECB to react appropriately as conditions evolve. Future rate decisions will remain data-dependent, based on inflation forecasts, inflation persistence, and how effectively monetary policy affects the economy.
Dolenc noted that the ECB’s latest projections point to higher inflation in the short term and weaker economic growth, though conditions could improve over the next two years if the Middle East conflict eases and energy prices stabilize.
The ECB also reviewed multiple scenarios. In the adverse scenario, further energy price spikes could push inflation higher for longer, potentially requiring additional rate hikes. In the mild scenario, if energy prices fall quickly due to improving geopolitical conditions, inflation could decline faster than expected.
Overall, Dolenc warned that volatile energy and commodity prices are keeping short-term inflation expectations elevated, leading markets to increasingly price in more ECB rate hikes later this year.
As a reminder, ECB sources signalled a pause in July if oil prices do not increase materially but endorsed the market pricing by saying that two more rate hikes are embedded in the projections.
