German 'wise ones' see inflation uptick if banking woes halt rate rises

Germany's economic council on Wednesday warned that inflation could remain high for longer or even pick up again if financial market worries prevent central banks from raising interest rates.

"The recent increase in financial market risks has made it more difficult for central banks to fight inflation," the five "wise ones" who advise Berlin on economic policy said in their biannual report.

"If the monetary policy response is too weak due to these trade-offs, inflation could remain high for longer than expected or even pick up again," they added.

Commenting on recent turmoil in the banking sector at a press conference on Wednesday, council member Monika Schnitzer said banks had to be monitored with frequent stress tests. She added that regulators should examine whether government bonds held by banks should be backed by equity capital.

Turmoil in the banking sector culminated in the Swiss regulator-backed takeover of Credit Suisse by rival UBS at the weekend. That followed the collapse of Silicon Valley Bank, which sank under the weight of bond-related losses due to a surge in interest rates.

Council member Ulrike Malmendier said that, unlike during the 2008 financial crisis, financial stability was not in danger, but banks "should be taken by the hand more" in the face of rapidly changing conditions.

In its report, the council revised its prediction that the German economy would face a mild recession this year, saying on Wednesday that gross domestic product (GDP) would grow by 0.2% in 2023 and 1.3% in 2024. This is in line with the government's forecast.

Inflation will come in at 6.6% in 2023 and 3.0% in 2024, the council predicted.