- Promises 25 bps rate hike in July
- Says will be hiking again in September and a larger move is possible
- Inflation rises, spreads
- Lagarde press conference at 1230 GMT
FRANKFURT/AMSTERDAM, June 9 (Reuters) – The European Central Bank on Thursday ended a long-running stimulus program and announced that it would implement its first rate hike since 2011 next month, followed by a potentially larger measure in September.
With inflation at a record high of 8.1% and rising, the ECB now fears that price growth could expand and turn into a difficult wage-price spiral, ushering in a new era of stubbornly higher prices.
The central bank of the 19 countries using the euro said it would end quantitative easing on July 1 and then raise interest rates by 25 basis points on July 21. It will then rise again on September 8 and opt for a larger move unless the inflation outlook improves in the meantime.
“We will ensure that inflation returns to our 2% target over the medium term,” ECB President Christine Lagarde said during a news conference. “It’s not just a step, it’s a journey,” she said of the steps signaled Thursday.
The rapid rise in prices was initially driven by energy and food prices as economies emerged from COVID-19 lockdowns, but Russia’s invasion of Ukraine has accelerated these trends and price growth is so widespread that even underlying inflation has doubled is as high as the ECB’s target.
The extent of rate hikes to curb price growth has been the subject of intense debate among ECB policymakers, with Chief Economist Philip Lane favoring moves of 25 basis points in July and September, but others arguing that 50 basis points should be considered.
The ECB backed up its argument and raised its inflation forecast again, now expecting inflation to come in at 6.8% this year versus a previous forecast of 5.1%. Inflation stands at 3.5% in 2023 and 2.1% in 2024, implying four consecutive years of inflation overshoots.
This is too high, argued Lagarde, saying that repeating these forecasts would require faster rate hikes three months from now.
“If you are at 2.1% in 2024 or beyond, will the increase in adjustment be higher? The answer is yes,” Lagarde said.
A hike of 50 basis points, the logical next step, would be the largest one-off rate hike by the ECB since June 2000. At minus 0.5%, the ECB’s deposit rate has been in negative territory since 2014.
BEHIND THE CURVE?
“Given the hawkish signals from the ECB, we now expect the central bank to follow July’s 25 basis point rate hike by 50 basis points in both September and October,” Nordea said in a note to clients.
“After that, the central bank is likely to slow, rising 25 basis points in December.”
Markets moved to price in 144 basis points of rate hikes by the end of this year after the statement, up from 138 basis points previously, or one hike at each session from July, with several of those moves exceeding 25 basis points.
They also expect the deposit rate to move a total of 240 basis points by the end of 2023, bringing the rate close to 2%.
Reuters Graphics Reuters Graphics
“I think in times of great uncertainty gradualism is probably more appropriate than when the path is clear and well marked and we all understand where we’re going,” said Lagarde, who announced only months ago that a rate hike this year was highly unlikely.
Some economists argued that the ECB was too late in tackling inflation, so raising interest rates to a neutral level that would neither stimulate nor restrain the economy would not be enough.
“The ECB stays behind the curve,” said Commerzbank chief economist Jörg Krämer.
“It’s not enough to take your foot off the accelerator, you also have to step on the brakes,” said Krämer. “But that’s exactly what it’s not ready to do, which is why we expect average inflation to be well above 2% in the coming years.”
The ECB’s first rate hike in over a decade will still leave it behind most of its global peers, including the US Federal Reserve and Bank of England, which have hiked aggressively and are promising even more action.
Unlike the Fed, the ECB also has no plans to reduce its balance sheet, as policymakers reiterate their commitment to continue reinvesting maturing cash from the ECB’s €5 trillion of public and private debt.
While promising rate hikes, Lagarde pledged not to let the financial markets drive up the borrowing costs of the eurozone’s former debt-crisis countries again. “We are committed, committed!” said Lagarde.
ECB rates and balance sheet
While the start of monetary tightening is now set, the end point remains uncertain.
Lagarde said rates should move towards the neutral point, where the ECB will neither simulate nor curb growth. But that level is undefined and unobservable, leaving investors guessing as to how far the ECB intends to go. Continue reading
Additional reporting by Francesco Canepa in Frankfurt and Marc Jones in London; Editing by Catherine Evans and Emelia Sithole-Matarise
Our standards: The Trust Principles.