ECB to raise rates for first time in 11 years next month

The ECB on Thursday described a series of rate moves to come. PHOTO: AFP

FRANKFURT (BLOOMBERG) - The European Central Bank (ECB) committed to a quarter-point increase in interest rates next month and opened the door to a bigger hike in the fall as it confronts record inflation.

Announcing the first rise in borrowing costs in 11 years, the ECB on Thursday (June 9) described a series of rate moves to come. With fresh forecasts signalling a faster path for euro-zone prices than earlier thought, it will cease large-scale asset purchases on July 1.

"If the medium-term inflation outlook persists or deteriorates, a larger increment will be appropriate at the September meeting," said the ECB in a statement.

Beyond that, "based on its current assessment, the Governing Council anticipates that a gradual but sustained path of further increases in interest rates will be appropriate".

That would bring the deposit rate to at least zero by the end of the third quarter, from minus 0.5 per cent at present, concluding an eight-year stint of negative borrowing costs and affirming a plan laid out earlier by ECB president Christine Lagarde.

The ECB sees inflation averaging 2.1 per cent in 2024 - exceeding its 2 per cent goal. The euro rose against the dollar on Thursday, climbing 0.5 per cent to US$1.0767, the highest since May 31. Traders increased bets on rate hikes, predicting 150 basis points of increases by December.

Thursday's decisions crystallise the ECB's exit from years of stimulus and are more aggressive than most economists predicted. Policymakers have lagged behind peers, with more than 60 other global central banks already having raised rates this year.

"This generally reads as the ECB finally realising they need to be in 'catch-up' mode with rate hikes, at least out the gate," said economists led by Mr James Rossiter at TD Securities in a report. "Once rates have reached positive territory, the pace of tightening can slow."

The announcements follow another unexpectedly steep surge in euro-area inflation, which stood at 8.1 per cent in May - more than four times the target. Soaring prices are squeezing households across the continent, with governments spending billions of euros to shield people from a spike in energy costs driven by Russia's invasion of Ukraine.

The relentless inflation had fed a fierce debate among ECB officials over how aggressive the response should be, with a sizable contingent pushing to consider a half-point hike matching the most recent move by the Federal Reserve.

Ms Lagarde may offer some insight when she briefs reporters. She will speak in Amsterdam as the ECB returns to holding one policy meeting a year outside its Frankfurt base following the Covid-19 pandemic.

Highlighting the current uncertainty, investors this week priced the chance of a half-point hike in July at 50/50. As price pressures linger and the economy loses steam, the ECB's new outlook showed medium-term inflation above or at target.

This week has already seen World Bank and Organisation for Economic Cooperation and Development forecasts reinforcing stagflation fears as the Ukraine war saps confidence and supply-chain disruptions in Asia restrain factories. While peak global inflation may have passed, Barclays predicts a mild euro-area recession after a splurge on summer vacations fades.

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