By FRANKFURT (Reuters) – Euro zone inflation is increasingly likely to ease back to the European Central Bank’s 2% target, ECB board member Isabel Schnabel said, dropping her long-standing warning about the difficulty of taming price growth and likely boosting rate cut bets.
Inflation dipped under 2% last month and the 20-nation currency bloc is skirting a recession, so markets are already betting that the ECB will have to speed up interest rate cuts with its next move seen on Oct. 17.
The comments from Schnabel, an outspoken conservative, or policy hawk in central bank parlance, will likely bolster these bets and reinforce expectations for a follow up move in December.
“We cannot ignore the headwinds to growth,” Schnabel said in a speech in the German town of Freiburg.
“With signs of softening labour demand and further progress in disinflation, a sustainable fall of inflation back to our 2% target in a timely manner is becoming more likely, despite still elevated services inflation and strong wage growth,” she said.
Markets see about a 90% chance of a 25 basis point cut in the 3.5% deposit rate later this month, coming on top of moves in June and September.
While Schnabel sounded more confident about inflation, Portuguese central bank chief Mario Centeno, one of the most dovish members of the Governing Council, said the ECB now faced the risk of undershooting the target, its top problem in the decade before the pandemic.
“Now we face a new risk: undershooting target inflation, which could stifle economic growth,” Centeno said on Wednesday. “Fewer jobs and reduced investment would add to the sacrifice ratio already endured. A sluggish economy would reinforce, in a vicious cycle, inflation undershooting.”
However, Schnabel tried to temper expectations about the impact the ECB could have, arguing that Europe’s economic problems were so deeply rooted that lower rates were not going to get the bloc out of its hole.
“Monetary policy is no panacea,” she said. “Monetary policy cannot resolve structural issues.”
The key problem was Germany, the euro zone’s biggest economy, which has fallen on especially hard times, with its export-focused, industry-driven economy now facing more permanent headwinds.
Geopolitical tensions will continue to hamper trade, more expensive energy is weighing on its competitiveness and high-value-added production from China is eating into its market share, she said.
Europe and Germany in particular, needs a new industrial policy that focuses on innovation and entrepreneurship, areas where it has trailed for decades now, Schnabel added.