AMSTERDAM (AP) — The European Central Bank will raise interest rates next month for the first time in 11 years and add another hike in September, catching up with other central banks around the world as they move from support to support. economy during the COVID-19 pandemic to stifle runaway inflation.
Thursday’s surprise move marks a turning point after years of rock-bottom interest rates, but faces risks from a weakening outlook for economic growth. Russia’s war in Ukraine sent shockwaves through the global economy, especially as energy prices soared and rattled Europe, which depends on Russian oil and natural gas .
“Russia’s unjustified aggression against Ukraine continues to weigh on the economy in Europe and beyond,” bank president Christine Lagarde told reporters. The war “disrupts trade, leads to material shortages and contributes to higher energy and raw material prices”.
The bank’s 25-member monetary policy council, which met in Amsterdam, said inflation had become a “major challenge” and that those forces had “broadened and intensified” in the 19 countries that use the euro. Consumer prices rose a record 8.1% in May. The bank’s target is 2%.
The ECB will first end its purchases of bonds which support the economy, then will raise its rates by a quarter of a point in July. He left open the possibility that he would make a more drastic increase of half a percentage point in September, saying that if the outlook for inflation persists or deteriorates, “a larger increase will be appropriate”.
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The US Federal Reserve raised its key rate by half a point on May 4 and raised the prospect of further, larger hikes. The Bank of England has approved four rate hikes since December.
The bar for a half-point rise in September “has been set very low,” said Marc Ostwald, chief economist and global strategist at ADM Investor Services International.
How far the bank will go after that is harder to say, said Carsten Brzeski, global head of macro at ING Bank.
“Put simply, the ECB has just announced the end of a long era,” Brzeski said. “Whether this will also be the start of a new era of continuously rising interest rates, however, is still far from certain.”
The prospect of rapid increases sent tremors through stock markets, as higher rates would boost returns on less risky alternatives to equities and could make credit more expensive for businesses. Lagarde, however, said the trajectory of increases would be “gradual but sustained” after September.
“High inflation is a major challenge for all of us,” the bank said in a statement. “The Governing Council will ensure that inflation returns to its medium-term target of 2%.”
By raising its benchmarks, the bank can influence what financial institutions, businesses, consumers and governments have to pay to borrow the money they need. Higher rates can therefore help cool an overheated economy.
But higher rates can also weigh on economic growth, making the ECB’s job a delicate balance between stifling high inflation and not blunting economic activity.
The ECB cut its growth projection for this year to 2.8% from 3.7%. It raised its outlook for inflation, saying price increases would average 6.8% this year, down from 5.1% in its March forecast.
The bank also raised its crucial inflation forecast for 2024 – to 2.1% from 1.9%. This is important because it indicates that the bank has viewed inflation as above target for several years, a strong argument for further rate hikes.
The euro’s exchange rate against the dollar jumped nearly half a cent to $1.076 after the decision. Higher rates can increase demand for investments denominated in a currency, which stimulates its exchange rate. The sudden jump indicates that the bank had gone further than expected in announcing rate hikes.
The ECB’s decision to tackle inflation has raised concerns about the impact of rising interest rates on heavily indebted governments, notably Italy. The bank did not announce any new support measures that could help these countries, saying only that it would react flexibly if parts of the euro zone faced excessive borrowing costs.
The rate hikes end an era of consistently low rates that began during the global financial crisis, which erupted in 2008. The increases will start from record lows of zero for the ECB’s lending rate to banks and minus 0.5% for bank demand deposits.
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