European Central Bank chief says global economy shifting from risk to uncertainty era

ISTANBUL

European Central Bank President Christine Lagarde on Thursday warned that the global economy is moving from a period of risk into a new era of uncertainty, where traditional forecasting models are increasingly inadequate.

Speaking at the Global Risk Conference organized by Johns Hopkins University in Italy, Lagarde said the ECB would maintain flexibility in monetary policy as geopolitical tensions rise, particularly following the escalation of conflict in the Middle East after US and Israeli strikes on Iran.

Her remarks, published on the website of the European Central Bank, emphasized that interest-rate decisions will continue to be taken on a meeting-by-meeting basis, guided by incoming economic data.

Lagarde said the current global environment differs from past periods of manageable risks, arguing that macroeconomic models calibrated to the relatively stable conditions of previous decades are no longer sufficient to guide policy decisions.

She explained that the ECB is increasingly relying on scenario analysis and policy flexibility to navigate the new landscape.

Drawing a historical comparison, Lagarde recalled that the technological optimism of the 1920s – driven by innovations such as the internal combustion engine and electricity – ultimately coincided with geopolitical fragmentation that culminated in the Great Depression.

“Markets priced technological gains as if they could be sustained in a fracturing world. Policymakers allowed the trading system to fragment as if this would not constrain growth," she said.

Lagarde also highlighted the deeply global nature of artificial intelligence supply chains, noting that producing an AI chip depends on multiple regions: critical minerals from China, lithography machines from the Netherlands, chip design from the US, and advanced manufacturing from Taiwan.

She said building a fully self-sufficient regional semiconductor supply chain could cost more than $1 trillion.

According to Lagarde, roughly 42% of last year’s growth in global goods trade was directly linked to investments in artificial intelligence, meaning that geopolitical fragmentation could disrupt the key inputs required for the technology.

She added that the ECB has expanded the scenario-analysis framework it first developed during the COVID-19 pandemic, incorporating extreme scenarios such as a complete halt of Russian gas supplies or a sharp escalation of conflict in the Middle East into its policy planning.

Lagarde pointed to a downside scenario published by the ECB in March 2022 that closely matched the inflation path that later materialized, underscoring the value of such approaches.

She warned that deeper geopolitical fragmentation could reduce global economic output by around 7% over the next decade, roughly equivalent to the combined economies of Germany and Japan.

While the instinct toward economic self-reliance is understandable, Lagarde cautioned that inward-looking policies could ultimately cut off the gains economies need most and worsen conditions for everyone.