Speaking in Brussels on Monday, the ECB President said the jump in long-dated yields is tightening financial conditions on its own. "While growth has been resilient, since our last meeting long-term interest rates have risen notably, which will slow growth and reduce pass-through by more than projected in our September exercise," she said. With second-round effects so far absent, she called for a "measured response as appropriate to keep inflation in check."
Lagarde also underscored that "interest rates do not move in lockstep with energy prices." The ECB's job, she said, is to stay ahead of knock-on effects "because when it's there, it's already a bit too late," even as policymakers are not yet seeing "anything that tells us as of yet that these second rounds are likely to come."
Lagarde stressed policy is not being set by an estimate of the neutral rate, even as she noted "we are at the upper end of that range, which is 2% to 2.5%." If the current market path plays out, with almost four additional quarter-point moves priced over the next year after two already in place, borrowing costs would run at levels that restrain activity. Traders, meanwhile, have cut the probability of another hike next month to less than 40%.
Officials are weighing whether further tightening is needed to control inflation and prevent higher energy costs from spilling into broader prices and wages. Alongside the conflict in the Middle East, they are also facing a global bond selloff that is especially concerning for some fiscally strained euro-area members.
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Oil prices advanced on Monday as optimism dimmed about a swift breakthrough in the Middle East, rekindling concern over fresh inflation pressures. Figures coming this week are expected to indicate euro-area inflation rose to 3.7% in September, up from 3.2% in August, and that consumers' expectations for future price increases climbed again last month.
Lagarde said government aid to offset energy costs should be temporary and focused on those most exposed, and she criticized some national programs for missing that mark. "From what both the commission and ourselves can see, it is not necessarily temporary, not necessarily targeted," she said. "They are measures that are across the board without a specific emphasis on the most exposed and most vulnerable part of the population."
If higher market yields are already cooling the economy, they will slow growth and reduce pass-through. If not, the "almost four" hikes investors anticipate mean borrowing costs could be high enough to restrain activity.
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