ECB Adapts Framework
The ECB has made its monetary policy framework more transparent since 2023 by laying out its reaction function. Since June, the Governing Council raised the deposit facility rate from 2% to 2.5% to ensure inflation returns to target.
Policy Response Principles
The optimal response depends on a shock's effect on projected inflation, not its type. The nature of the shock determines the speed of returning inflation to target.
Navigating Overlapping Shocks
The economy faces multiple shocks including the Middle East conflict, AI expansion, tariff effects, and fiscal stimulus. These have distinct implications for inflation.
Focus on Underlying Inflation
The ECB emphasizes underlying inflation measures to avoid being misled by volatile energy prices and base effects in headline forecasts.
Timely Action Required
Central banks must act before indirect and second-round effects fully materialize, as waiting would mean responding too late.
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