Mitsubishi UFG Says ECB Makes Clear Its Reaction Function To Inflation Risks

07:12 AM EDT, 03/26/2026 (MT Newswires) -- There has been a lot of focus on whether the rates move MUFG has seen since the start of the conflict in the Middle East is realistic, given that an energy price shock would be growth-negative.

However, as the bank suspected, the European Central Bank's response to an energy price shock is likely to be quite different from before. In the past, there has been a tendency to focus on downside growth risks rather than upside inflation risks.

On Wednesday, the ECB held its annual "ECB & Its Watchers" conference in Frankfurt, with both President Christine Lagarde and Chief Economist Philip Lane speaking. MUFG's sense from the speeches was that the ECB has a much stronger resolve to tighten the monetary stance than what the bank has seen in the past.

Lagarde spoke, intending to ensure the ECB isn't "paralyzed by hesitation" -- perhaps a lesson from 2022 -- and of a "forceful" response to a larger and more lasting energy price shock. Lane wasn't as direct and emphasized the data-dependent approach to assessing the risk of an inflation upturn that may require a response. Lane highlighted some upcoming survey data as important in assessing those inflation risks that suggested that if those data were alarming, the ECB could be compelled to hike sooner rather than later.

Lagarde stated that the ECB was prepared to act "at any meeting."

At this juncture, the comments are credible evidence of a likelihood of action some time in Q2, stated MUFG. Equity market performance and broader financial market conditions will be important, but if equity markets remain relatively resilient, then action is more likely than not.

The two-year yield over the ECB policy rate is rising more sharply now than in 2022 -- when Russia invaded Ukraine -- despite the ECB policy rate back then being negative.

The bank still argues that the fact that the ECB was successful in ultimately achieving price stability -- unlike the Bank of England or Federal Reserve -- gives the ECB a little more time to assess the risks. However, the comments from Lagarde in particular point to limited tolerance with a possible preference to act pre-emptively and accept the downside risks to growth rather than wait and as such accept the upside risks to inflation.

The very different rates moves in Europe to this inflation spike compared with the past may be playing a role in curtailing the negative terms of trade shock, but if broader risk aversion picks up and global equities fall more sharply on global recession risks, relative yields will have much less impact and MUFG likely sees a more pronounced move stronger for the US dollar (USD).

For now, though, the ECB clearly sees the value in talking tough and waiting for evidence of the inflation impact. That raises the importance of incoming survey data on inflation, added MUFG.

If the eurozone PMI Composite Input Price index is anything to go by, markets could be set to see "very sharp" increases in inflationary gauges, according to the bank. The Input Price index surged 6.94 points in March, the second largest one-month increase on record, only surpassed in March 2022 following Russia's invasion of Ukraine (+7.04pts).

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