The new power shock: financial situations and coverage implications

Keynote speech by Piero Cipollone, Member of the Executive Board of the ECB, on the 2026 Sustainable Development Festival

Milan, 6 May 2026

Thank you for the chance to talk on the Sustainable Development Festival.

Today, I’ll argue that the present power disaster serves as a robust reminder that Europe’s path to sturdy and secure financial development is just as viable as it’s sustainable. We ought to care about sustainability not simply, and even primarily, to guard the surroundings, but in addition as a result of it’s a key situation for our financial stability and prosperity. And in doing so, we Europeans can pursue our personal particular pursuits, whereas additionally contributing to the frequent good.^[1]

We are dealing with the second main power shock in simply 4 years. Following on from Russia’s invasion of Ukraine in 2022, the warfare in Iran and the Middle East is now additional hampering power flows. And the closure of the Hormuz Strait is beginning to disrupt world provide chains.

This shock has interrupted a optimistic, hard-won pattern of secure costs and sturdy development within the euro space over the past two years.^[2] Inflation had returned to focus on. Real incomes had recovered from the earlier power shock, boosting consumption. Investment was on the rise. And home demand was greater than making up for the decline in internet exports stemming from greater US tariffs and the surge in imports from China. Overall, the European economic system was exhibiting robust resilience to the prevailing commerce uncertainty.^[3]

Now, this resilience is once more being put to the take a look at.

The warfare in Iran and the Middle East is already having an impression on costs and portions. Oil and gasoline costs have surged, feeding into short-term inflation. And provide tensions have began to emerge, as an illustration in relation to jet fuels.

If sustained, the present shock may have important implications for our medium-term inflation goal and the euro space’s financial outlook.

So how can we greatest navigate this surroundings?

In the brief time period, we face appreciable uncertainty over the evolving geopolitical scenario. To assist our selections, we have now developed financial situations, in keeping with the teachings discovered from our expertise lately.^[4] As geopolitical developments and their implications unfold, these situations present us with a benchmark to evaluate the scenario in actual time, informing our financial coverage selections. We are taking note of attainable indicators of a de-anchoring of inflation expectations or of a break in financial dynamics, as we search to make sure inflation returns to our goal in a well timed method with out pointless prices.

While financial coverage can make sure the return of inflation to focus on over the medium time period and monetary coverage smoothen the hit to financial exercise, there are inevitable trade-offs related to the response to damaging power provide shocks, which have to be rigorously calibrated. Over an extended time horizon, nonetheless, the broader coverage implications are clear. Geoeconomic shocks have main results on costs and the economic system. And our dependency on fossil fuels multiplies these results. The present power disaster thus underscores the urgent must additional scale back our reliance on fossil fuels not solely due to local weather dangers however maybe much more clearly due to power safety dangers which are prone to be with us for a while.^[5] Decarbonising will make us higher off, not worse off.

In my remarks right now, I’ll talk about the renewed power shock and its short- and medium-term impression on inflation and the economic system, earlier than turning to the coverage implications.

The power shock and its short-term impression

Let me begin by placing the present shock in perspective.

Geoeconomic tensions have spiked lately, reaching their highest ranges for the reason that launch of the euro (Chart 1). These disruptions to worldwide financial relations, primarily affecting commerce and power, have arisen in a world that has by no means been as interconnected as it’s right now, thus magnifying their impression.

The short-term impact of the warfare in Iran and the Middle East on world oil provide is bigger than within the three earlier power crises (1973, 1979 and 2022) mixed.^[6] Even after accounting for mitigating measures, such because the rerouting of oil flows by way of pipelines and the discharge of strategic reserves, the online decline in provide is estimated at round 12 million barrels per day,^[7] representing about 11% of the prewar world oil provide. Restoring provide after the warfare will take time given the injury to main oil amenities. As a consequence, oil costs have surged (Chart 2).

Gas costs have additionally elevated, however to this point by a lot lower than after Russia’s 2022 invasion of Ukraine. This is necessary within the European context given how intently correlated electrical energy and gasoline costs are.

At the identical time, the closure of the Strait of Hormuz has affected the commerce of quite a few important commodities and chemical merchandise, equivalent to liquefied pure gasoline, refined oil merchandise, aluminium, helium, sulphur and fertilisers. This constitutes a damaging provide shock for the euro space economic system, lowering the supply and pushing up the worth of important inputs. There is already some proof of longer supply occasions, rising enter prices and provide shortages, albeit nonetheless contained in contrast with these seen between 2021 and 2022 (Chart 3).

The shock has pushed shopper costs greater. Annual headline inflation rose to three% in April (Chart 4), pushed by a ten.9% improve in power costs, whereas inflation excluding power fell to 2.2%.

By pushing up shopper costs and exacerbating uncertainty, the shock is prone to scale back actual incomes and harm home demand, which had been the motor engine for the euro space economic system in current quarters.^[8] Indeed, surveys level to a major hit to financial sentiment (Chart 5). In explicit, shopper confidence has dropped sharply, which can dampen consumption.^[9] And the empirical proof means that the shock will weigh on enterprise funding, with European companies considerably reducing capital and R&D expenditure within the wake of an oil shock, not like their US counterparts.

In addition, the power shock can be a terms-of-trade shock, additional rising the costs of euro space imports relative to exports, thus weighing on internet exports.

Meanwhile, the impression on financial exercise might be compounded by the endogenous tightening of financing situations, as banks turn out to be more and more involved in regards to the financial dangers dealing with their clients. Credit requirements for loans to companies have already tightened within the first quarter, in keeping with our newest financial institution lending survey.^[10] This warrants shut monitoring, particularly as banks anticipate additional tightening, which is predicted to speed up within the subsequent quarter.

On the opposite hand, the shock might be cushioned considerably by households’ stable monetary place, a nonetheless resilient labour market and authorities spending on defence and infrastructure. These elements, alongside enterprise funding in new digital applied sciences, have underpinned home demand in current quarters.

Fiscal measures may additionally present assist, although they need to stay momentary, tailor-made and focused on the most uncovered households and sectors. Otherwise, issues about the fee to public funds and their sustainability may result in a rise in long-term yields that will instantly weigh on personal funding.

So far, the impression on financial exercise has been felt by way of power costs, confidence results and financing situations. However, Europe may begin operating out of jet gasoline and kerosene reserves by the top of May,^[11] doubtlessly resulting in materials restrictions on the exercise of a number of industries akin to these seen through the COVID-19 pandemic.

The medium-term outlook: working with situations

The magnitude of the macroeconomic results will rely upon the depth, length and propagation of the shock. To assess these results, the Eurosystem has turned to financial situations. They present us with a reference level to evaluate ongoing developments in a extremely unsure and risky surroundings.

Under the baseline situation in our March employees projections, greater power costs are prone to maintain inflation nicely above 2 per cent within the close to time period. Although current inflation has been in keeping with these projections, there are clear upside dangers in view of the newest oil worth developments.

There are additionally clear draw back dangers to development, which already got here out under our projections within the first quarter of the 12 months, at 0.1% quarter-on-quarter. For occasion, the drag from the continued shock may additional intensify if transport disruptions have been to trigger enter shortages, forcing euro space companies to curtail their output.

The hostile and extreme situations we outlined in March search to seize the dangers to the inflation and development outlook.^[12] This method has since been adopted by different establishments, such because the IMF.^[13]

Our projection’s hostile situation assumes a a lot sharper improve in power costs, with oil and gasoline costs peaking at USD 119 per barrel and €87 per MWh, respectively, within the second quarter of 2026. It additionally incorporates stronger oblique and second-round results, in addition to better uncertainty and heightened hostile worldwide spillovers, equivalent to decrease international demand. In such a situation, inflation is cumulatively 1.5 share level greater till 2028 than what we projected final December, whereas development is cumulatively 0.8 share level decrease.

Compared with the hostile situation, the extreme situation assumes a fair stronger and extra persistent power worth shock, with oil costs peaking at USD 145 per barrel and gasoline costs at €106 per MWh within the second quarter of 2026, earlier than declining at a a lot slower tempo. It additionally envisages better uncertainty and even stronger oblique and second-round results. In such a situation, inflation is cumulatively 6.3 share level greater till 2028 than what we projected final December.

The important distinction between the hostile situation and the extreme situation highlights the significance of the depth, length and propagation of the shock as we search to evaluate its impression on the inflation outlook (Chart 6). We will replace these situations in our June projections.

Policy implications

The function of financial coverage: preserving worth stability within the medium time period

This method in flip helps inform our financial coverage selections.

Last week we determined to maintain our coverage charges on maintain. Our beginning place permits us to collect extra info on the depth and certain length of the shock. Inflation was again to our 2% medium-term goal, supporting the credibility of our financial coverage. Economic development was near potential and our coverage charges have been throughout the estimated impartial vary the place they neither stimulate nor put a break on the economic system. These are necessary variations in contrast with the scenario we initially confronted at first of the 2022 power shock. And right now we’re not dealing with a optimistic demand shock just like the one which occurred when the economic system reopened after the pandemic.

At the identical time, recollections of the earlier power shock are nonetheless contemporary, and will result in a sooner adjustment in inflation expectations. Short-term inflation expectations, non-labour enter prices and companies’ promoting worth expectations have certainly moved greater. At the identical time, medium-term inflation expectations have to this point remained nicely anchored (Chart 7) and measures of underlying inflation stay near our goal.

We are however taking note of attainable indicators of a de-anchoring of medium to long-term inflation expectations. In explicit, we will likely be trying on the oblique pass-through of upper power prices to the broader consumption basket costs and attainable second-round results.

A key consideration would be the pricing energy of companies. A weaker economic system, the place the availability shock triggers a damaging demand shock, would scale back this pricing energy. A extra resilient economic system could as a substitute depart extra room for worth will increase. The newest PMI surveys level to a contraction of exercise in companies. While manufacturing has to this point been extra resilient, this partly displays a buildup of security shares in response to provide chain disruptions.

Regarding wages, we will likely be intently monitoring their improvement, however wage-setting sometimes lags behind price-setting. At this stage our wage tracker continues to level to wage moderation amid a cooling labour market. After the earlier power shock, we truly noticed a major contraction in actual incomes, leading to an preliminary discount of the labour share of earnings and the relative worth of labour.^[14] In right now’s surroundings, the adoption of synthetic intelligence (AI) may additional weigh on the labour share, primarily by way of wage compression.^[15] For instance, in Italy 42% of employees worry that they might be changed by AI.^[16]

Overall, the present scenario appears to be drifting away from our March baseline projections, which will increase the chance that we may have to regulate our coverage charges.

Increasing Europe’s resilience to power shocks

Faced with an power shock, financial coverage can anchor expectations and make sure the return of inflation to focus on over the medium time period, whereas fiscal coverage can smoothen the hit to financial exercise. But they contain prices irrespective of how neatly and punctiliously engineered they might be. These prices can’t be ignored on the grounds of their low frequency. On the opposite, they’re amplified by the truth that provide shocks have gotten extra frequent owing to using important inputs as leverage within the geostrategic energy wrestle.

In response, Europe wants to extend its resilience to power shocks. This requires additional lowering our dependence on fossil gasoline, which nonetheless represents greater than half of the EU’s total power combine (Chart 8, panel a).

A extra sustainable power combine would profit worth stability. It would assist disposable earnings for European households. And it might scale back the power invoice for European companies, sustaining not simply conventional energy-intensive sectors but in addition new ones, equivalent to knowledge analytics, AI and knowledge centres which are at present the supply of development in different economies. At the identical time, a extra sustainable power combine would contribute to the frequent good of combatting world warming by abating CO2 emissions.^[17]

Europe is already much less uncovered than it was in 2022 due to the fast advance of renewables. As of 2024, greater than two-thirds of EU electrical energy technology comes from low carbon sources, which is way more than within the United States and China. Renewables is the biggest contributing supply at 48%, with nuclear power accounting for an additional 23%.^[18]

From 2015 to 2025, the EU’s power depth – that’s, power expenditure as a share of GDP –declined by 32% and now stands under that of Asian economies (Chart 8, panel b). Energy consumption is 10% decrease than in 2021, and gasoline import volumes have fallen by 20%.^[19] While this partly displays the impression of upper power prices on the European manufacturing sector, it is usually the results of effectivity positive factors. Overall, the IMF estimates that Europe’s power effectivity positive factors and cleaner power combine over the previous 5 years have diminished the price of the present shock by 12% for households at present costs.^[20]

In explicit, Europe has turn out to be much less depending on power imports from Gulf international locations and is now considerably much less uncovered than Asian international locations (Chart 9, panel a). This implies that output in danger from the present disruptions is decrease than in Asia however nonetheless greater than within the United States, which has turn out to be a internet petroleum exporter. This is illustrated by a fragmentation situation in world commodity markets, by which provide shortages propagate by way of the worldwide manufacturing community and create broad-based manufacturing constraints (Chart 9, panel b).

However, the present shock exhibits that additional efforts are wanted to extend Europe’s power safety and resilience to additional shocks. According to the President of the European Commission, the EU has spent an additional €27 billion on fossil gasoline imports for the reason that warfare in Iran began.^[21]

Looking forward, Europe wants to remain the course on the power transition and additional combine its power market.^[22] In explicit, interconnecting power grids and coordinating the power provide would assist it scale back the dangers stemming from the native volatility of renewable power sources, which can be found at completely different occasions throughout the euro space. It would additionally make it attainable to leverage the range of power mixes throughout Member States.

The European Grids Package is a crucial step on this course. But if we need to set up a single marketplace for power and overcome the intrinsic difficulties of transporting electrical energy – by rising storage capability, as an illustration – then we have to be extra bold. Given the investments required for this and the potential frequent advantages – as documented within the Draghi report^[23] – there’s a case for collectively financing at the very least a portion of them.^[24]

There might be a silver lining for the European economic system. If power shocks push us to innovate and do extra with much less fossil gasoline power, not solely will worth stability profit however productiveness development will improve.

Europe already performs a number one function in sustainable finance. Green bonds are seeing the quickest development in worldwide euro-denominated bond issuance, and the euro has surpassed the US greenback in worldwide inexperienced and sustainable bonds. Looking forward, Europe may place itself on the forefront of monetary devices designed to hedge towards sustainability-related dangers.^[25]

Conclusion

Let me conclude.

The warfare within the Middle East has led to a pointy improve in power costs, pushing up inflation and weighing on financial sentiment.

The implications of the warfare for medium-term inflation and financial exercise will rely upon the depth, length and propagation of the power worth shock. 

We are utilizing situations to evaluate these implications, whilst uncertainty continues to cloud future geopolitical developments. These situations permit us to make use of knowledgeable judgement as we assess incoming info and determine on the suitable financial coverage response.

However, the financial and monetary responses to power provide facet shocks are expensive irrespective of how neatly and punctiliously engineered they might be. Other instruments are wanted, as one factor is for certain: sustainability contributes to stability. To be extra resilient to power shocks, we have to keep the course for the power transition within the title of worth stability and financial prosperity.

Thank you on your consideration.