European Central Bank makes biggest ever interest rate hike

Associated press

Thursday, September 8, 2022, 4:32 p.m.
Last updated: about 13 hours ago

The European Central Bank carried out its biggest ever interest rate hike on Thursday, following the US Federal Reserve and other central banks in a global rush of rapid rate hikes designed to stifle record inflation which squeezes consumers and pushes Europe into recession.

The bank’s 25-member board raised its key benchmarks by an unprecedented three-quarters of a percentage point for the 19 countries that use the euro. The ECB typically changes rates by a quarter of a point and has not raised its key rate by three-quarters of a point since the launch of the euro in 1999.

Bank President Christine Lagarde said the ECB would keep the rate hike “over the next few meetings” because “inflation remains far too high and is likely to remain above our target for an extended period.” She said energy prices would remain “extraordinarily high”.

While Lagarde refrained from predicting a recession later this year, which many economists expect, she told reporters that “recent data indicate a substantial slowdown in economic growth in the euro zone, the economy expected to stagnate later in the year and into the first quarter of 2023.”

The bank’s massive increase aims to increase the cost of borrowing for consumers, governments and businesses, which in theory slows spending and investment and dampens the spike in consumer prices by reducing demand Goods.

Analysts say it is also aimed at bolstering the bank’s credibility after it underestimated the duration and severity of this inflation spike. After hitting a record 9.1% in August, inflation could climb to double digits in the coming months, economists say.

The war in Ukraine fueled inflation in Europe, with Russia sharply cutting supplies of cheap natural gas used to heat homes, generate electricity and run factories. This has driven gasoline prices up 10 times or more.

European officials denounce the budget cuts as blackmail aimed at pressuring and dividing the European Union over its support for Ukraine. Russia blamed technical problems and this week threatened to completely cut off energy supplies if the West instituted price caps on Moscow’s natural gas and oil.

Some economists say the ECB’s interest rate hikes, including a half-point hike at its last meeting in July, could worsen a European recession forecast for later this year and early 2023, caused by higher inflation that has made everything from groceries to more expensive utility bills.

Lagarde said the bank does not, however, expect a decline in economic output under its current assumptions. A 2022-23 recession could only occur in a “really grim” worst-case scenario where all Russian natural gas is cut off, alternative supplies are unavailable and governments have to resort to energy rationing, a- she declared.

Energy prices are beyond the ECB’s control, but the bank said the rate hikes would prevent rising prices from being priced into expectations for wage and price deals and that decisive action now would preclude the need for even bigger hikes if inflation takes hold.

The European Central Bank “wants to fight inflation – and wants to be seen as fighting inflation,” said Holger Schmieding, chief economist at Bank Berenberg.

Although energy prices and government support programs to shield consumers from some of the pain “will have a much bigger impact on inflation and the depth of the impending recession than monetary policy,” he said. he declared.

Carsten Brzeski, chief eurozone economist at ING Bank, also said the coming recession “will be driven by energy prices, not interest rates.”

Higher rates could help fight inflation by increasing the euro’s exchange rate against the dollar and other currencies. This is because the recent drop in the euro to less than $1 – due to soaring energy costs and deteriorating economic prospects – is making imported goods, including energy, more expensive. .

The ECB has lagged other global central banks in raising rates. Central banks around the world have collapsed after being caught on the wrong foot by inflation fueled by Russia’s war in Ukraine and the lingering effects of the COVID-19 pandemic, which have driven oil prices higher. energy and restricts the supply of parts and raw materials.

The sudden interest rate hike follows years in which borrowing costs and inflation have remained low due to general trends such as globalization, aging populations and digitalisation.

The ECB benchmark is now 1.25% for lending to banks. The Fed’s main benchmark is 2.25% to 2.5% after several large rate hikes, including two by three-quarter points. The Bank of England’s key benchmark is 1.75%, and the Bank of Canada on Wednesday raised its benchmark by three-quarters of a point to 3.25%.

Stephen V. Lee