Graph of the week: ECB under pressure from low oil prices

The ECB has been missing its inflation target for three years running now, and inflation seems stuck at 0% for the moment. As such, it shouldn’t come as a surprise that the ECB announced that it is seriously thinking about adding to monetary stimulus at its March meeting. However, the ECB is powerless to change the path of oil prices, a key factor behind recent low inflation.

eurozone inflation exp and oil

In recent days, long term market inflation expectations have once again fallen to ultra-low levels. This is clearly worrying the ECB. However, a key factor in this has been the spectacular fall in oil prices. Without the latter, inflation would close to 1% at the moment (still too low, but significantly closer to the target). There is little or nothing the ECB can do to change the dynamics of oil prices. As such, it is highly doubtful that additional stimulus at this point will contribute meaningfully to the ECB reaching its inflation target.

The ECB has reacted to oil prices in the past. The Trichet-led ECB raised interest rates in the Summer of 2008 (two months before the Lehman Brothers-fiasco) and again in Spring 2011, both times as rising oil prices were pushing up inflation. In both cases, the ECB rate hikes were obvious policy mistakes. The current situation is less clear-cut. Still, the ECB has little to gain from attempting to counter oil markets.

This article was written by Bart Van Craeynest

on 22 January, 2016

On completion of his studies in economics at UFSIA, Bart Van Craeynest started work as an economist in the financial sector. In this capacity he has been following economic developments in Belgium and internationally and the impact of the latter on the financial markets for over 15 years. Following a long period at a large bank, he became chief economist at a Belgian financial institution in 2010. Bart Van Craeynest has held the position of chief economist at Econopolis since 2015. He is co-responsible for the economic line of the house and hence closely involved in developing the investment strategy.