With a drag over the European economy continuing, the European Central Bank imposed another big interest rate hike on Thursday, as policy makers quickly tried to cool record high inflation in the region.
The central bank, which sets monetary policy for the nineteen countries that use the euro, raised interest rates by three quarters of a percentage point, Matching the previous increase Last month. After a slow start to raising prices – Increase in July It was the first in more than a decade – the bank said it quickly tightened its stance on its policy as inflation proved worse and more stable than the bank had expected.
In just three months, the bank raised interest rates by two percentage points, the fastest tightening pace in the bank’s two-decade history.
Consumer prices rose 9.9 percent on average in the euro zone in September from the previous year, the fastest pace on record, driven by energy and food prices. The bank is targeting an inflation rate of 2 percent.
“Inflation is still very high and will remain above target for a long time,” central bank chief Christine Lagarde said at a press conference in Frankfurt on Thursday.
She said that the bank’s policy stance aims to weaken the forces that drive demand upwards and protect against the risks of inflation expectations turning upwards constantly.
“We are not done yet; there is more ground to cover,” said Mrs. Lagarde.
But the central bank provided few details about the exact path of the rate hike. Lagarde said the bank has made “substantial” progress in withdrawing easy money from the eurozone, and while interest rates will rise further, the number and size of the next moves will be determined based on the data at each policy meeting. She added that due to the increased uncertainty, it was not helpful to provide much forward guidance.
The challenges facing central bankers have increased in the past few months as lawmakers have taken more steps to protect households and businesses from rising prices, especially higher energy bills. Central bankers warned that fiscal policy should not conflict with monetary policy. Britain has become an international example of this danger. last week, Liz Truss resigned as Prime Minister After the tax cuts sparked turmoil in the financial markets.
European governments were at odds on how they should respond to rising energy prices, with wealthier nations benefiting from their better fiscal positions to spend more. Germany recently announced a €200 billion ($201 billion) aid plan for homes, businesses and industries.
Lagarde said fiscal policy should be temporary, targeted and designed to help the most vulnerable. These considerations will help lawmakers “to meet the needs of those most affected by income erosion, as well as by inflation, but without fueling inflation on a broad basis,” she said. “Because that would be completely counterproductive in that it would require us to take tougher monetary policy action.”
“We are all interested in what is happening in neighboring countries,” she added. “And I think the messages speak for themselves.”
The ability of central bankers to control inflation has been severely tested over the past year. There was once an expectation that high inflation would pass quickly, especially when it was driven primarily by high and volatile energy prices that policy makers could not control. But economies faced a series of economic shocks that pushed central banks into action.
The effect of high inflation is starting to show. It eats up household income and corporate profits, and reduces production when factories cannot afford high energy costs.
In the eurozone, the central bank faces a complex battle against rising prices. If inflation continues to rise and is more stable than expected, the bank may respond with stronger monetary policy. But at the same time, the economic outlook is worsening, making households and businesses less able to afford higher interest rates.
Lagarde said the Eurozone economy is likely to be weak early next year. “By lowering real incomes for individuals and increasing costs for businesses, high inflation continues to discourage spending and production,” she said.
And so while inflation is well above the central bank’s target, analysts are already questioning the extent to which the eurozone’s high policy makers will be able to raise interest rates as recession approaches.
“During the winter, it will become increasingly clear that the eurozone economy has entered a major recession,” economists at Berenberg Bank predicted in a note. They expect policymakers to raise rates only twice.
Analysts at Dutch bank ING also expected the rate hike to expire at the next meeting in February. “While today’s jumbo hike was a no-brainer, we expect more contentious discussions in December and an end to the hiking cycle in February next year,” they wrote in a note.
The bank deposit rate, which is what banks receive for depositing money with the central bank overnight, was raised to 1.5 percent on Thursday, and the new rate will come into effect on November 2. The bank also raised other key lending rates by three. quarter point. It remains a relatively loose political position compared to some of its international counterparts. In the United States, the Federal Reserve’s policy target is between 3 and 3.25 percent. The Bank of England’s key interest rate has been set at 2.25%.
On Thursday, Lagarde said interest rate increases may need to go beyond simply “normalizing” the policy stance to ensure inflation returns to target. However, no further clues were provided to rate it.
The inflation rate is expected to remain above the central bank’s target for the next two years, the bank said earlier this month. Natural gas prices in EuropeWhich severely affected the inflation rate, it eased recently as the weather remained relatively warm and governments succeeded in filling storage facilities. But prices are still double what they were a year ago, and analysts say there is still a risk that prices could rise sharply again. Prices are higher in winter futures, when stocks are expected to dwindle.
Policymakers are also keeping a close eye on how much companies are raising their prices and whether workers are demanding higher wages in response to rising inflation. For now, these secondary effects appear contained, but there are signs that wages are rising and inflation expectations are above target. It can be very difficult to control inflation once expectations set in those prices continue to rise.
The euro may be a source of comfort for policy makers. On Wednesday, it rose again above $1 for the first time in more than a month. Officials have been vigilant about how a weak euro has exacerbated inflationary pressures by increasing the cost of imports.
On Thursday, the bank also announced a change in the terms of the loans it provided to banks during the pandemic. They are designed to give banks cheap access to money and encourage lending to businesses and households.
Analysts noted that with inflation rising and the central bank raising interest rates, the loans were providing European banks with an offsetting opportunity to earn money from their holdings in the central bank. The central bank said it was changing the terms of these loans to reflect its tough stance on monetary policy. Starting next month, interest rates on those loans will rise, and the bank encourages early repayment.
These new terms will lead to higher lending costs for businesses and households, because bank borrowing costs will be higher, Lagarde said. “This is inevitable given the critical position we have.”
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