In a bid to demonstrate its determination to keep inflation under control, which reached a record level of 9.1% year-on-year in August, the Governing Council struck a blow, on Thursday 8 September, by raising its three key interest rates by 75 basis points, following a 50 basis point increase at the end of July (see EUROPE 12998/13).
The interest rates on the main refinancing operations of the marginal lending facility and the deposit facility will be increased to 1.25, 1.50 and 0.75% respectively. These increases will progressively raise financing costs for businesses, households and governments.
“The Governing Council took today’s decision and expects to raise interest rates further over the next several meetings of the Governing Council, because inflation remains far too high and is likely to stay above target (of 2% over the medium term) for an extended period”, said the ECB President, Christine Lagarde.
She noted that since the July meeting, “price pressures have become even greater and more widespread in the economy”, particularly in the services sector. Worse, she warned, “inflation could accelerate further in the short term”, mainly because of the surge in energy prices caused by the Russian invasion of Ukraine, but also because of the weakness of the euro against the dollar.
The monetary institute thus revised its inflation forecasts for 2022 and 2023 upwards significantly compared to June (see EUROPE 12968/1), while maintaining a trajectory of return to a level close to the objective at the end of 2024. The trajectory is now as follows: 8.1% in 2022, 5.5% in 2023 and 2.3% in 2024.
According to Ms Lagarde, the number of successive meetings of the Governing Council at which rate hikes will take place is between two and five. The size of each increase will depend on the latest macroeconomic data and will be decided at each meeting, she stressed, while agreeing that the larger the gap between the observed rate and the target, the higher the increases. “And we want to return timely to the goal we have”, she insisted.
Asked whether the ECB should put in place a mechanism to dry up the liquidity available in the markets , known as “quantitative tightening”, Ms Lagarde said she wanted the ECB to remain focused on what she considered to be the most effective rates.
Recession avoided in 2023?
Recent data available to the Frankfurt institute point to “a substantial slowdown” in growth in the euro area. According to Ms Lagarde, the economy could thus observe “a phase of stagnation at the end of the year and in the first quarter of 2023”, due to the very high energy prices that are putting a strain on the purchasing power of consumers’ incomes.
Thus, with the headwinds blowing harder than in June, the ECB has ‘markedly’ revised down its euro area GDP growth projections for 2023 based on the following path: 3.1% in 2022, 0.9% in 2023 and 1.9% in 2024.
Ms Lagarde referred to an adverse scenario envisaged by her services which foresees a complete halt in Russian hydrocarbon supplies this winter. If this scenario were to materialise, a recession of 0.9% of GDP would materialise in the euro area.
A rare element of satisfaction in this macroeconomic landscape plagued by the Russian invasion of Ukraine, the level of unemployment is historically low, at 6.6%.
As for the fears expressed about higher public debt servicing costs in highly indebted euro area countries such as Italy and Greece, the former IMF Managing Director recalled that the ECB’s ‘anti-fragmentation’ tool, unveiled in July, was ready and that the Governing Council would not hesitate to use it in the event of turbulence in sovereign debt markets, as Italians are due to vote at the end of September.
See the ECB monetary decisions: https://aeur.eu/f/307 (Original version in French by Mathieu Bion)