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European Central Bank raises interest rates by unprecedented 75 basis points

The European Central Bank (ECB), has increased its key interest rates by an unprecedented 75%, signaling that more increases are possible.

The bank, which is responsible for monetary policy in the eurozone, raised the deposit rate to 0.75% on Thursday afternoon. The main refinancing rate was also increased to 1.25%. This is the highest level since 2011.

It occurs as inflation reaches a half century high and the bloc is heading for a winter recession.

The ECB released a statement saying: “Over the next few meetings, the Governing council expects to increase interest rates further to dampen the demand and guard against a persistent upward trend in inflation expectations.”

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According to the bank’s revised economic forecast, inflation is expected to average 8.1% in 2019, 5.5% in 2023 and 2.3% by 2024.

Inflation was originally driven by energy prices, which were exacerbated by Russia’s invasion of Ukraine. However, it is now being fuelled also by recent drought.

According to the ECB, “Price pressures continue to strengthen across the economy and inflation could rise further in near future.”

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“This important step frontloads transition from the prevailing high-accommodative policy rate to levels that will allow for the prompt return of inflation at the ECB’s 2% medium term target.”

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The ECB forecasts GDP growth at 3.1% in 2018, up from its June projection of 2.8%, but it has lowered its 2023 forecast from 2.1% down to 0.9%.


‘Euro slide putting upward pressure on inflation’

Rob Clarry, Evelyn Partners’ investment strategist, stated: “While the eurozone’s inflation has largely been driven primarily by supply side challenges, rather than excessive demand,” but the ECB has acted firmly to prevent higher inflation expectations from becoming entrenched.

“Another reason is to stop the euro’s slide towards the US dollar because this has increased inflation pressure.

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Andrew Bailey, Governor of Bank of England, says that it will take at least two years before inflation in the UK drops to 2%.

“Fundamentally it seems that the ECB is adopting a similar stance as the Bank of England and Federal Reserve: tackling inflation at the expense of economic development.


“Positives that we can draw from”

“While the economic outlook is not good, there are positives that we can take.

“First, the eurozone made significant progress in replenishing its gas stock ahead of winter. Whether this will be sufficient depends on the weather and ongoing flows.

“Second: It looks like there is a consensus around the bloc that governments must support households through subsidizing energy bills.

“Indeed this week, we saw Germany (EUR65bn), Portugal (2.42bn), and the Netherlands (16bn) announce support package announcements.

“This should support consumer spending, as the eurozone seeks to avoid prolonged economic contraction.”

The euro was initially at parity with the dollar in currency trading. However, it has since fallen. The pound fell to 86.95 pence per Euro early in the morning, a new low after two and a half months. However, it has since recovered a little.

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