ECB warns prolonged energy shock to drive up inflation, lower growth

By Gokhan Ergocun

ISTANBUL (AA) - The European Central Bank warned on Thursday that the growing scale and duration of the energy shock are likely to push up inflation and dampen economic growth across the eurozone.

Speaking at a news conference in Frankfurt alongside Vice-President Boris Vujcic, ECB President Christine Lagarde said policymakers decided to keep key interest rates unchanged while remaining ready to respond to elevated economic uncertainty.

"Energy prices have continued to rise, posing upside risks to the inflation outlook and downside risks to the growth outlook," Lagarde said.

"The increased magnitude and duration of the energy shock, as well as the implications for indirect and second-round effects, are likely to drive up inflation and lower growth," she added.

Headline inflation in the single currency bloc climbed to 3.8% in September from 3.2% in August, driven by an 18.9% jump in energy costs as diesel and gasoline prices touched new peaks, Lagarde noted.

Inflation excluding energy edged up to 2.3% from 2.1%, food inflation rose to 1.3% from 1.1% and services inflation reached 3.2%, while goods inflation eased slightly to 1.1%.

Lagarde said energy prices have exceeded the baseline path projected by ECB staff in September, which will likely keep headline inflation well above the bank's 2% target over the coming quarters.

Wage pressures remain moderate, with compensation per employee rising 3.3% in the second quarter, while negotiated wage growth is projected to average 2.6% in the first nine months of 2027.

Despite the energy drag, incoming data shows the eurozone economy continued to expand in the third quarter, supported by a recovery in services, artificial intelligence-related business investment and government spending on defense and infrastructure.

The unemployment rate held at 6.4% in August, while productivity has gradually improved, Lagarde said.

However, risks to economic growth remain tilted to the downside, primarily due to the Middle East conflict and the ongoing war between Russia and Ukraine.

"Continued disruption of energy supplies could cause energy prices to rise further and for longer than currently expected," Lagarde warned, adding that tighter financing conditions and renewed trade tensions could further weaken investment and exports.

On financing conditions, Lagarde noted that interest rates have broadly moved higher while stock prices have fallen.

Bank lending rates for firms stood at 3.8% in August, while the cost of market-based debt rose to 4.1% and corporate loan demand declined due to higher borrowing costs.

Mortgage rates rose to 3.6% in August, leading to a substantial drop in household demand for home loans.

Lagarde called for temporary, targeted and tailored fiscal measures in response to the energy shock and urged European Union policymakers to finalize the legal framework for the digital euro as quickly as possible.

Reaffirming the central bank's medium-term 2% inflation target, Lagarde stressed that future rate decisions will follow a data-dependent, meeting-by-meeting approach without pre-committing to a specific interest rate path.

Gökhan Ergöçün