MNI INTERVIEW: ECB In Good Place But Not Complacent - Kazaks

The European Central Bank has delivered on its mandate of returning inflation to the 2% target and sits in a “good place”, but policymakers are not complacent and remain vigilant to exogenous shocks, Latvian National Bank Governor Martins Kazaks told MNI.

“We are delivering the target … we were spot on [headline inflation] for three months. September was at 2.2%, the flash reading for October says we are at 2.1%, so we are delivering,” Kazaks said in an interview on Tuesday.

“We are in a good place, but it does not mean that we are complacent. We are following what happens and uncertainty remains high,” he said.

“Credibility of ECB governing council to deliver is there. The inflation expectations are anchored, the outlook that we currently have, shows that we are likely to remain close to 2%.”

Kazaks said "the good thing is that the markets, by and large, understand our reaction function as well,” giving the Governing Council space to observe incoming data.

The current wait-and-see stance is the right approach for now, he said.

“The modus operandi that we have -- meeting-by-meeting, dependent data – remains appropriate. We are following what happens and uncertainty remains high.” (See INTERVIEW: Eurozone Risks Tilt To Downside - ECB's Stournaras)

ETS2 RISKS

One downside risk to ECB inflation forecasts in the medium term comes from the European Union’s ETS2 emissions-trading system, though the bloc’s energy ministers now want to delay its extension to household heating and road transport by one year to 2028.

"[ETS2] is a political decision both in terms of the time scale when it comes into play, and in terms of the of the level,” Kazaks said

“Of course we need to monitor when and how ETS2 is implemented, especially as its impact is estimated at quite sizeable 0.3 percentage points.” (See MNI: EC Autumn Inflation Forecast To Assume Mitigated ETS2)

Kazaks praised both Frankfurt-based staff and national central banks for the accuracy of their projections in recent years, though current forecasts have been refined on the back of learning experiences since the post-Covid inflation surge.

Still, he warned against placing too much emphasis on December’s forecasts, particularly the first look at projections for 2028.

“In December, we will see one more year added to our forecast and inflation outlook, and that is going to be a very important data to look at, but don't over emphasise it,” he said, noting the difficulty of precision over long time horizons, and the potential for unexpected shocks as well as the diminishing impact of policy transmission over the period.

“Don't ignore the 2028 forecast, but don't take it as a major reason for decision making.”

NO TARGET SLIPPAGE

Kazaks rejected any suggestion that the ECB is falling back into a soft version of its old inflation target, which was for inflation below, but close to 2%.

“Our strategy very clearly says 2% symmetric medium term. So no, it's not true,” he said.

“Our actions have been very clear to the market that we are targeting 2% symmetric -- look at the track record that we have been delivering. It is impossible to find an intentional undershoot ... So no, a very clear no,” he added.

“We target 2% symmetric medium term. And this is what we've done so far, and we will continue doing so. But it's naive to expect that we will hit 2% exactly every and each month.”

Kazaks would not speculate on how the ECB might define a prolonged inflation undershoot in its projections. 

“The background is important, the dynamics are important. The sequence of various shocks is important, because sometimes you can simply look through them and sometimes you cannot,” he said.

“It's going be case specific, but the target is certainly going to be 2% symmetric, and medium term.” (See MNI INTERVIEW: ECB's Wunsch Sees Less Chance Of Another Cut)