The European Central Bank (ECB) lifted interest rates to their highest level in 22 years on Thursday, heaping further financial pressure on borrowers, while warning that a further rate hike in July is now “very likely”.
Bank president Christine Lagarde said it was clear that inflation is set to be “too high for too long” and that the ECB is not finished tackling it just yet.
However, she declined to be drawn on the rate outlook beyond next month.
“Do we still have ground to cover? Yes,” Ms Lagarde told reporters at the post-meeting press conference in Frankfurt. “And I can even go further than that: I can tell you that barring a material change to our baseline, it is very likely the case that we will continue to increase rates in July,” she said.
Frankfurt’s latest 0.25 percentage point increase, the eighth since last July, lifted the bank’s main refinancing rate, the one that affects mortgages, from 3.75 per cent to 4 per cent. The move added to financial pressures already on borrowers with the State’s 250,000 tracker mortgage holders, who face an automatic increase in their monthly repayments, bearing the brunt.
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Investors now see the ECB’s terminal rate – the highest level interest rates will reach – settling at about 4.25 per cent, indicating that at least one more hike is fully priced in, but some analysts see the ECB going to 4.5 per cent before pausing.
The latest decision was underpinned by fresh quarterly projections suggesting inflation will moderate more slowly than previously envisaged, to 2.2 per cent in 2025.
The ECB also raised its 2023 and 2024 projections for inflation excluding volatile energy and food, which is monitored closely by policymakers, on the back of “past upward surprises and the implications of the robust labour market for the speed of disinflation”.
Inflation across the euro currency area has fallen sharply in recent months, with the annual rate drifting down from a peak of 10.6 per cent last autumn to 6.1 per cent in May.
This has fuelled hope that Frankfurt could be near the end of its cycle of interest rate hikes.
“The outlook for economic growth and inflation remains highly uncertain,” Ms Lagarde said.
ECB policymakers are concerned that rising wage demands will maintain existing price pressure even as the initial energy price surge falls away.
A big uncertainty is how the euro zone economy is reacting to the ECB monetary tightening push; 400 basis points in less than a year is unprecedented in the ECB’s history.
While credit conditions have altered, the feed through into the wider economy is still unclear.
“President Lagarde was very clear that they expect to hike rates again,” Melanie Baker, senior economist at Royal London Asset Management, said.
“While clearly laying out the things they will be watching and emphasising a data-dependent meeting-by-meeting approach, president Lagarde was also clear that they are not thinking about pausing,” she said.
With wage growth and the labour market clearly in focus, there are risks that they end up hiking quite a bit further. There remains a chance that the ECB ends up hiking too much and that the impact, with a lag, on the real economy and inflation prove stronger than expected. My forecasts for now continue to assume that the ECB hike rates twice more this year,” Ms Baker said. – Additional reporting Bloomberg
