Running into troubled waters

Supply chain problems will slow the recovery and keep inflation above target until around the middle of next year. Beyond that, however, the economy should get back on track. After regaining its pre-crisis level later this year, output is likely to converge with its pre-pandemic trend. Meanwhile, we do not expect significant second-round effects from the recent surge in prices and think wage increases will remain quite modest. Headline inflation is likely to drop back below the ECB’s target by the end of next year, as energy inflation turns negative. So while the ECB will end its emergency PEPP purchases next March, it will step up its regular asset purchases and leave the deposit rate at -0.5% until around 2025, which is a lot later than financial markets anticipate.