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Inflation Puzzle: ECB Conference Suggests Central Bankers Flummoxed by Ongoing Price Pressures

Isaac Nuriani    |
Jul 14, 2023
  • Central bankers remain surprised at inflation’s persistence.
  • Fed Chair Powell expects U.S. inflation to stay above 2% target for years.
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At the conclusion of the Federal Reserve’s June policy meeting, U.S. central bankers decided – for the first time in 11 consecutive gatherings – against raising interest rates.[1]

When the meeting minutes were released a couple of weeks ago, we learned there had been a great deal of back and forth among Fed officials about whether to raise again or stand fast. Ultimately, the doves prevailed, and it was decided that a “wait and see” approach would be best. Those in favor of pausing suggested it might be appropriate to give rate hikes that had been made to that point more time to work their way into the economy before considering additional tightening. The idea of slowing the pace of rate increases seemed to gather momentum in the wake of shakiness that became evident in the banking system during late spring.[2]

But in the relatively few weeks since the conclusion of last month’s policy meeting, U.S. central bankers already may be shaking off whatever reluctance they may be feeling about continuing to boost interest rates.

There appears to be renewed concern among central bankers about inflation. That concern is rooted not only in the persistence of inflation, but also in what seems to be the unpredictability surrounding where inflation may go from here as well as an inability to nail down what, precisely, are its drivers this time around.

Some of the most recent evidence of inflation puzzlement among central bankers seems to have emerged from the European Central Bank’s (ECB) annual symposium held at the end of last month in Sintra, Portugal. There, several heads of the world’s leading central banks – including Fed Chair Jerome Powell – gathered to discuss the ongoing inflation challenges with which central banks all over the world have been grappling for more than two years now.

The comments made by principal attendees seemed to make two overarching points: Inflation is now officially stubborn…and the underlying drivers of price pressures are still not entirely clear.

More broadly, the sentiments expressed by forum participants seem to suggest they are genuinely perplexed by the inflation they’re seeing. Which means there’s a third overarching point of central bankers these days: We should expect both inflation and higher interest rates to remain features of the economic environment for some time to come.

Central Bank Leaders Still Surprised by Inflation’s “Persistence”

With global inflation now more than two years old, there likely wasn’t much of a mystery about what the theme of this year’s annual ECB central-bank forum was going to be:

“Macroeconomic stabilization in a volatile inflation environment.”

It has been a volatile inflation environment – but it’s been a persistent inflation environment, too. And it turns out that “persistent” was central bankers’ preferred way to describe inflation during their time in Sintra.

In just her introductory speech at Sintra, ECB President Christine Lagarde used the word 12 times in connection with inflation and price pressures.[3]

Colleagues Jerome Powell and Bank of England Governor Andrew Bailey weren’t shy about referring to inflation as “persistent,” either.

“It’s been surprising that inflation has been this persistent,” Powell said at one point, while Bailey noted that the most recent inflation numbers in the United Kingdom “showed clear signs of persistence.”[4]

In the view of central-bank leaders, inflation has completed its 180-degree turn to “persistent” from “transitory,” or “temporary,” two years beforehand.[5] And it’s demonstrating this persistence at the level at which monetary policy supposedly is most useful: core inflation.

Economists tend to prioritize core-inflation measures because they exclude food and inflation prices. Prices in those sectors can be especially sensitive to non-monetary-policy influences, such as supply shocks and environmental/weather-related factors. Looking at inflation minus food and energy can give economists a clearer look at the condition of the underlying economy as well as the true impact of applied monetary policy.

Core inflation has remained particularly stubborn even as headline, or “all-items,” inflation has retreated steadily over the past year. In the Eurozone, year-over-year headline inflation increased at a pace of 5.5% in June – a meaningful deceleration from the 6.1% rate recorded in May. Good news. However, core inflation increased 5.4%, accelerating from May’s 5.3% rate.[6] When it comes to chronic, higher-inflation environments that have lasted for years, no one wants to see renewed signs of acceleration.

The news is roughly the same in the U.S. In June, the headline consumer price index (CPI) climbed 3% year over year…its slowest rate of increase since March 2021. However, core CPI rose at a 4.8% pace, which is still well above the Fed’s 2% inflation target.[7]

Fed Chair Powell: Our Understanding of Inflation Expectations Is Imprecise

The ongoing intractability of core inflation was the cue for another revelation made by central bankers at Sintra: They don’t seem to know what, actually is going on with inflation, and – as a related matter – so far seem powerless to exert any real effect on it.

Along with no shortage of references to inflation as “persistent,” there also were no shortages of exclamations of surprise by central bankers about how resilient their economies have been in the face of nearly 500 rate hikes, globally.[8]

“If you look at the data over the last quarter,” Powell said, “what you see is stronger than expected growth, a tighter than expected labor market and higher than expected inflation.”[9]

Powell also admitted, after a fashion, that central banks had done a rather poor job up to this point of projecting where inflation would be headed, and noted the consequences of that failure could include the embedding of inflation in the economy.

“Our understanding of inflation expectations is not a precise one,” Powell said. “The longer inflation remains high, the more risk there is that inflation will become entrenched in the economy. So the passage of time is not our friend here.”[10]

It is said this lack of faith in historical inflation projections and the ongoing surprise at the persistent strength of both inflation and economies are big reasons why central banks have moved to a posture of being “data-dependent” when it comes to policy decisions; that is, deciding how to proceed on the basis of the very latest information available at each policy meeting, rather than using those meetings to implement decisions made in advance.

On that point, Pierre Wunsch, head of Belgium’s central bank, said during his time in Sintra, “We don’t trust models enough now to base our decision, at least mostly, on the models. And that’s because we have been surprised for a year and a half.”[11]

The Federal Reserve apparently sees itself in the same boat. Speaking at an event earlier this week, San Francisco Fed President Mary Daly suggested the U.S. central bank was now in a mode of “extreme” data-dependence when it comes to making policy decisions, going forward.

“We may end up doing less because we need to do less,” Daly said. “We may end up doing just that; we could end up doing more. The data will tell us.”[12]

Commenting on this shift by central banks to relying almost exclusively on current data as the basis for making policy decisions, Barron’s put it this way: “Translation: We don’t have confidence in our own forecasts, we need more clues from what’s happening on the ground.”[13]

As if elusive forecasting accuracy isn’t enough of a challenge for central banks in wrestling inflation back to the ground, one Sintra speaker raised the possibility that structural inflation influences could grow stronger from here.

Let’s discuss that in a little more detail.

IMF Official: “Substantial Risk” That Inflation-Intensifying Supply Shocks Will Be Ongoing

In a review of the ECB forum, the New York Times noted that “the conversations in Sintra kept coming back to all the things economists don’t know,” including that “inflation expectations are hard to decipher [and] the speed that monetary policy affects the economy seems to be slowing.”[14]

The greater difficulty in managing price pressures could be further intensified by another factor. Gita Gopinath, first deputy managing director of the International Monetary Fund, suggested to the assembled that the world has entered another era of inflation, one that could be influenced more greatly by “structural,” or foundational, changes in society – changes that may prove less sensitive to applications of traditional monetary-policy.

One example of such a change is the prospect of increased “geoeconomic fragmentation,” which Gopinath said could manifest in nations continuing the trend of forsaking global supply chains in the interest of moving production closer to home.

“There is a substantial risk that the more volatile supply shocks of the pandemic era will persist,” Gopinath said.

“Many countries are turning to inward-looking policies, which raise production costs and, ironically, make countries less resilient and more susceptible to supply shocks,” she added.[15]

Overall, the message of Sintra from central bankers and monetary-policy experts was largely that there’s a lack of certainty about what has happened up to this point as well as what could lie ahead – and that one possible consequence could be a diminished ability on their part to deftly and efficiently exert a positive outcome.

Fed Chair Jerome Powell said as much when, in response to a panel-discussion question while in Sintra, he told the assembled that he didn’t see core inflation in the U.S. returning to the Fed’s 2% target before 2025.[16]

“That now makes it crystal clear,” Barron’s said in response to Powell’s disclosure, “interest rates are going to stay higher for longer.”[17]


[1] Bryan Mena, CNN Business, “The debate over pausing at the Fed was intense, minutes show” (July 5, 2023, accessed 7/13/23).
[2] Ibid.
[3] ECB.Europa.eu, “Breaking the persistence of inflation” (June 27, 2023, accessed 7/13/23).
[4] C-Span.org, “Federal Reserve Chair at European Central Bank Forum” (June 28, 2023, accessed 7/13/23).
[5] Dan Burns and Howard Schneider, Reuters.com, “Fed, ECB, and BOE hop aboard the ‘transitory’ inflation express” (November 4, 2021, accessed 7/13/23).
[6] Patricia Cohen, New York Times, “Eurozone Inflation Slows, but Underlying Price Pressures Persist” (June 30, 2023, accessed 7/13/23).
[7] Bureau of Labor Statistics, “Consumer Price Index – June 2023” (July 12, 2023, accessed 7/13/23).
[8] Marc Jones, Reuters.com, “Economy at critical juncture in inflation fight: central-bank body” (June 26, 2023, accessed 7/13/23).
[9] C-Span.org, “Federal Reserve Chair at European Central Bank Forum.”
[10] Ibid.
[11] Eshe Nelson, New York Times, “At the Front Lines of the Inflation Fight, Uncertainty Reigns” (July 3, 2023, accessed 7/13/23).
[12] Ann Saphir and Michael S. Derby, Reuters.com, “Fed closing in on end of rate hiking cycle, central bank officials say” (July 10, 2023, accessed 7/13/23).
[13] Barron’s, “Powell’s Honesty About Inflation Is Rare. Why Markets Need to Be Worried.” (June 29, 2023, accessed 7/13/23).
[14] Nelson, “At the Front Lines of the Inflation Fight.”
[15] ECB.Europa.eu, “ECB Forum on Central Banking 2023” (accessed 7/13/23).
[16] C-Span.org, “Federal Reserve Chair at European Central Bank Forum.”
[17] Barron’s, “Powell’s Honesty About Inflation Is Rare.”

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