ECB accounts show growing inflation undershoot worries before iran war

ECB Warns of Further Inflation Drop Before Oil Surge Alters Policy Outlook

ECB Meeting Insights and Policy Implications

Inflation Trends and ECB's Initial Outlook

FRANKFURT, March 5 (Reuters) - European Central Bank policymakers expected inflation to fall even further below target before conflict in the Middle East pushed oil prices sharply higher this week, the accounts of their February 4-5 meeting, showed on Thursday.

The ECB left rates unchanged at the meeting and signalled comfort in the outlook, including the euro's persistent strength against the dollar, reinforcing bets that policy change would not be on the agenda for some time.

Short-Term Inflation Expectations

"Near-term inflation was likely to fall further below target than previously anticipated," the ECB said in the accounts. "However, it was cautioned against drawing strong conclusions from this single data point, especially given recent energy price volatility."

Impact of Oil Price Surge on Policy Outlook

The outlook has materially shifted this week given a surge in energy prices, a significant factor for both growth and prices, as the bloc is one of the largest energy importers in the world. Investors now see some chances of an ECB rate hike by December.

Policymaker Concerns Over Energy Prices

A more-than-20% rise in oil prices this week will boost inflation, at least in the short term, and a host of policymakers already warned that without a swift resolution to the conflict, there could be a longer-term hit to consumer prices.

Growth Risks and Policy Dilemmas

But dearer energy weighs on growth further out, which tends to curb price growth, leaving policymakers with a dilemma.

Monetary policy is also ineffective against near term price rises, so higher interest rates only make sense if the ECB thinks that rapid price growth will become entrenched.

Future Policy Considerations

"The ECB was currently in a good place from a monetary policy point of view, but this did not mean that the stance was to be seen as static," the ECB said.

Inflation Projections and Rate Hike Buffer

Since inflation was projected to undershoot the ECB's 2% target both this year and next, the bank enjoys a modest buffer before any energy-induced price surge would force policymakers to raise interest rates.

Long-Term Expectations and Potential Actions

However, once longer-term inflation expectations start to rise, the ECB may come under pressure to act, especially since it was late in acting on surging prices after the outbreak of the war in Ukraine, forcing it to raise rates at a record pace in late 2022 when price growth shot to record highs.

(Reporting by Balazs Koranyi; Editing by Toby Chopra)