ECB to Press Pause on Stimulus Exit Plan as War’s Impact Weighed

(Bloomberg) -- Sign up for the New Economy Daily newsletter, follow us @economics and subscribe to our podcast.

The European Central Bank is set to take a timeout from plotting its exit from stimulus as it assesses the damage Russia's war in Ukraine could inflict on the continent's economy.

Inflation is approaching 6% -- three times the official target -- while Europe's pandemic rebound is in danger of being curbed as the invasion sends already lofty energy costs soaring further and threatens to curb trade and investment.

Amid the extreme uncertainty, the challenge will be to provide support without allowing prices to spin out of control. Vowing to react flexibly and forcefully, ECB policy makers still agree that the path toward ending below-zero interest rates and years of bond-buying remains appropriate, though achieving that may now take longer. 

While economists surveyed by Bloomberg continue to predict an ECB rate hike in 2022, they expect no firm commitments on withdrawing stimulus when the Governing Council convenes on March 9-10 -- a meeting that was earlier billed as a crucial juncture for removing support.

Come June, however, respondents see the ECB setting September as the end-date for net bond-buying, with only one predicting they'll continue in 2023.

“If the conflict between Russia and Ukraine persists for several months, this would likely delay the exit from expansionary monetary policy somewhat,” said Martin Weder, senior economist at Zuercher Kantonalbank. “However, even higher inflationary pressure would still push policy makers toward gradual policy normalization.”

ECB staff projections due next week have been revised to take account of Russia's assault as well as the latest record reading of euro-area inflation, according to Chief Economist Philip Lane. He presented initial forecasts last week showing economic expansion could be 0.3 to 0.4 percentage point weaker this year as a result of the war.

The corporate response to the fighting demonstrates the potential drags on growth. 

Carmakers including Volkswagen AG and BMW AG have halted production in -- and exports to -- Russia. Siemens Energy will cease new business activities there, while Rotterdam's port said on the day of the invasion that it's “extremely worried” sanctions will bring higher prices and bottlenecks.

In commodities markets, oil is climbing toward $120 a barrel for the first time in a decade -- threatening to raise the cost of everything from fuel to food.

What Bloomberg Economics Says...

“In a scenario of a prolonged war -- which now looks closer to the base case -- sanctions from the U.S. and EU and retaliation from Russia push energy prices higher. Gas at 180 euros per mega-watt hour and oil at $120 a barrel add about one percentage point to euro-area inflation and squeeze consumers. Taken together with the blow to trade, that means significantly slower growth, taking a 2022 rate hike off the table. ”

--Jamie Rush, chief European economist. For full SHOK analysis, click here

The Bundesbank warned Wednesday that German inflation could average 5% this year, after predicting a rate of 3.6% in December. Economists see euro-area consumer prices rising 4.6% in 2022 and 2% in each of the two following years -- in line with the ECB's goal.

Officials are facing a “difficult choice between fighting the currently high inflation and supporting the growth outlook that's looking fragile,” said Bas van Geffen, senior macro strategist at Rabobank. “The loss-minimizing strategy suggests that the ECB should still cautiously and gradually withdraw some stimulus.”

Policy makers have underlined that data will determine their actions. Lane said this week that they'll also “consider, as needed, new policy instruments.”

Such a step may be warranted if the economy suffers a severe hit from the war, financial stability is at risk or more targeted help is needed in specific corners of the currency bloc. That's unlikely to be the case by next week.

“The ECB will stress its data dependency and the necessity of preserving favorable financing conditions,” said Ulrike Kastens. “The ECB is not pre-committed and will decide at each meeting whether the stance of monetary policy is still appropriate or not.”

©2022 Bloomberg L.P.