Philip R. Lane: Analytical perspectives on energy supply shocks

SPEECHAnalytical perspectives on energy supply shocksDinner remarks by Philip R. Lane, Member of the Executive Board of the ECB, at the Centre for European ReformLondon, 13 May 2026My aim in this speech is to outline some of the analysis carried out by ECB economists in relation to energy supply shocks. I do not attempt to provide a comprehensive account; rather, I will focus on a selective set of issues.[1][2] In the final part of the speech, I will discuss the implications for monetary policy.The economic impact of supply-driven oil price increasesIn order to quantify the impact of the current oil price shock on the euro area economy, ECB staff have estimated a Bayesian vector autoregressive (VAR) model. The model includes a series of identified geopolitical oil supply shocks along with the global real price of oil, a global economic activity indicator, euro area real GDP, private consumption, investment, consumer prices, and short and long-term interest rates.[3] The source of an oil price movement is crucial in assessing its macroeconomic impact. Unlike a demand-driven increase, which typically reflects stronger global growth and supports economic activity, a supply-driven increase weighs on activity in oil-importing economies such as the euro area. This has an impact through higher production costs, lower real household income, weaker global demand and elevated uncertainty, with the latter typically more pronounced when shocks are geopolitical in nature.Following a geopolitical oil supply shock that raises the real oil price by 10 per cent on impact, euro area real GDP growth is estimated to be around 0.2 to 0.3 percentage points lower in each of the first three years following the shock (Chart 1, a). Both private consumption and investment growth are lower. The adverse impact on investment is more pronounced, which is consistent with investment being more sensitive to the elevated uncertainty that follows geopolitical oil supply disruptions. The model is estimated over 1985 to 2023. However, the oil intensity of the euro area economy has declined steadily over this period (Chart 1, b). Re-estimating the model over a shorter sample starting in 2003 suggests that the effects may have weakened somewhat over time (see the yellow dots in panel a), especially through a smaller response of private consumption.Chart 1Estimated effects of oil supply shocks on output, consumption and investmenta) Responses normalised to a 10% increase in the real oil priceb) Oil intensity of euro area real GDP over time(percentage points)(index, 1990 = 100)Sources: Panel a) Verduzco-Bustos and Zanetti (2026), Baumeister and Hamilton (2019), U.S. Energy Information Administration (EIA), Bureau of Labor Statistics (BLS), Eurostat, New Area-Wide Model database, ECB and ECB staff calculations. Panel b) Eurostat, New Area-Wide Model database and ECB staff calculations.Notes: Panel a) The chart shows the estimated impact of a temporary geopolitical oil supply shock that raises the real oil price by 10% on annual growth in euro area real GDP, private consumption, and investment in the first three years following the shock. Estimates are derived from a Bayesian VAR with identified geopolitical oil supply shocks from Verduzco-Bustos and Zanetti (2026), along with the global real price of oil, a global economic activity indicator, euro area real GDP, private consumption, investment, consumer prices, and short- and long-term interest rates. Estimates are reported for the full sample (first quarter of 1985 to fourth quarter of 2023) and for a shorter sample starting in the third quarter of 2003. See Gareis J. (forthcoming), Higher oil prices from the war in the Middle East: assessing the headwinds for euro area growth, Economic Bulletin, Issue 4, ECB; Baumeister and Hamilton (2019), Structural Interpretation of Vector Autoregressions with Incomplete Identification: Revisiting the Role of Oil Supply and Demand Shocks, American Economic Review, 109(5), 1873-1910. Estimated effects of oil supply shocks on output, consumption and investmentPanel b) Oil intensity is measured in kilograms of oil equivalent per euro of real GDP and indexed to 100 in 1990. The latest observation are from 2024.Energy shocks: global versus regionalThe ongoing disruption in energy markets is intrinsically more global than the 2022 shock stemming from Russia’s invasion of Ukraine, which was relatively more localised and Europe-centric. This difference can fundamentally alter the transmission channels through which output and inflation are affected. ECB staff have compared the impact of a global energy shock with a regional energy shock through the lens of a multi-country, multi-sector DSGE model with production networks and trade linkages, calibrated with four regions: the EU, the United States, China and the Rest of the World (RoW).[4] For comparability, the local and global energy shocks are both scaled to imply a 10 per cent rise in the price of energy in the EU on impact.[5]The exercise assumes that monetary policy reacts to inflation and growth according to a standard Taylor rule with inertia.Compared with a regional shock, a global shock not only directly raises the price of imported energy but also indirectly raises the price of all energy-intensive imported goods. This leads to a larger increase in overall import prices and thereby generates a more pronounced deterioration in the terms of trade (Chart 2, panel a). Although the global shock is partially cushioned by real exchange rate depreciation (since it is experienced even more acutely in other countries), the adverse impact on EU output is larger relative to a regional shock since the drop in global demand reduces EU net exports (Chart 2, panel b and panel c). In contrast, although the real exchange rate appreciates in the case of the regional shock according to the model (since monetary policy tightens to counter the upward pressure on inflation), the ability of domestic households and firms to switch towards cheaper imports mitigates the adverse impact on output (Chart 2, panel b; Chart 3, panel a). Chart 2Effects of global versus regional energy shocks: impact on EU trade and exchange ratesa) EU terms of trade b) EU real effective exchange ratec) EU trade balance(percentage points)(percentage deviation from steady state)(percentage point deviations from steady state)Sources: Gnocato, N., Montes-Galdón, C. and Stamato, G. (see footnote 4) and ECB staff calculations. Notes: Simulations from a multi-country, multi-sector DSGE model with production linkages and trade. The local energy shock arises from trade frictions on EU imports of oil and gas from the RoW; the global shock from a decline in productivity in the RoW oil and gas sector. The shocks are both scaled to imply a 10 per cent rise in the EU energy price on impact, with a half-life of eight quarters. Panel a: difference between the change in export prices and import prices. Panel b: an increase in the EU real effective exchange rate indicates appreciation.By contrast, a global shock means that costs are increasing around the world such that there is no relief via the import channel. This creates a compounding effect where the final price of a good reflects not just the direct increase in the local energy price but the cumulated effects of price increases across international suppliers. Consequently, the total drain on output is more severe, as producers along the entire global value chain are simultaneously affected (Chart 3, panel a).[6]Accordingly, a global shock has larger indirect effects on inflation than a regional shock. The direct impact on inflation is the same by construction: both shocks imply a 10 per cent rise in the price of energy on impact and a cumulative increase of around 0.2 percentage points in the energy component of inflation over a 3-year horizon (Chart 3, panel b and panel c). However, the indirect spillovers are larger in a global shock. In both cases, higher energy prices also increase domestic production costs, which are passed through to the prices of consumer goods and services. According to the model, currency appreciation partly mitigates the impact on inflation in a regional shock, while depreciation amplifies that of a global shock. In a regional shock, the indirect spillovers through higher costs for domestic producers are more limited and build up more gradually, with the non-energy component of inflation contributing to overall inflation by about 0.4 percentage points cumulatively (Chart 3, panel b). In a global shock, not only energy, but also production inputs and consumer goods become more expensive. These larger indirect effects have two main consequences compared with a regional shock. First, the rise in consumer prices of non-energy goods and services is more front-loaded (Chart 3, panel c). Second, the indirect impact is larger overall, with the non-energy component contributing to total inflation by 1.5 percentage points cumulatively. The relatively larger contribution of non-energy tradable goods (industry and agriculture) further underscores the role of imported inflationary pressures in a global shock.Overall, the global shock exerts more severe damage on output and inflation relative to a regional shock. While cast in linear approximations, the simulations capture a rich set of indirect channels — such as international trade and global value chains. That said, the results can be interpreted as a worst-case scenario along certain dimensions. In particular, given the short-run focus, oil and gas are assumed to be close to non-substitutable in production. In reality, however, producers can adapt over time by switching to alternative energy sources and adjusting their input mix.[7]Chart 3Effects of global versus regional energy shocks: impact on activity and pricesa) EU GDP growthb) Contributions to inflation – local shockc) Contributions to inflation – global shock(percentages year-on-year)(percentage po