ECB stands resolute and hikes rates
ECB stands resolute and hikes rates
The European Central Bank (ECB) has raised all three of its key policy interest rates. This was in line with consensus expectations and its previous statement at the January Governing Council meeting.
Prior to the meeting ECB president Christine Lagarde had stated on several occasions that because inflation remains too high, and the forecast path was not consistent with returning inflation to target, interest rates would need to rise by a further 50 basis points today . An assessment would then be made by bank staff whether further action was required.
As such, the main refinancing interest rate has risen from 3% to 3.5%, while the deposit rate has increased from 2.5% to 3% - the highest levels since October 2010. No other policy changes were announced.
Many analysts had started to question whether the ECB would follow through with its previous guidance given the sell-off in financial markets, first due to the collapse of Silicon Valley Bank in the US, and more recently the issues at Credit Suisse. The ECB has said that it is “…monitoring current market tensions closely and stand ready to respond as necessary to preserve price stability and financial stability in the euro area. The euro area banking sector is resilient, with strong capital and liquidity positions. In any case, our policy toolkit is fully equipped to provide liquidity support to the euro area financial system if needed and to preserve the smooth transmission of monetary policy.”
It’s clear that had the ECB not hiked by as much as it did today, it could have sent a signal to investors that perhaps there was some concern over the stability of the banking system. Investors are aware that policymakers have more information than is publicly available, and so the actions of central banks matter to investors as they attempt to assess ongoing risk.
Details of the new ECB staff forecast were announced today which are generally moving in the right direction. Average inflation for 2023 has been revised down by a percentage point to 5.3%, and from 3.4% to 2.9% for 2024, and down again slightly to 2.1% by 2025. Core inflation (excluding food, alcohol, tobacco and energy) on the other hand has been revised up for this year to 4.6%, but down in the subsequent years. Core inflation represents domestic inflation pressures better than the headline rate, and as such, the ECB is keen to see this fall back in coming months before concluding that the inflation is decisively falling back towards target.
Looking ahead, the ECB decided not to give much guidance on the path of interest rates, but reverted to its “data dependent” decision making processes, citing heightened uncertainty caused by recent turmoil in markets. If inflation falls quickly in coming months, and signs of wage growth ease, then the ECB may decide to halt any further increases. If inflation remains sticky, and wage growth accelerates further, then further rate rises could follow.
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