Last Updated on Thursday, 2 February, 2023 at 5:43 pm by Andre Camilleri
The European Central Bank has chugged ahead with another outsized interest rate increase, underlining its drive to subdue high inflation even as the European economy slows and the U.S. Federal Reserve eases its pace of hikes.
The bank raised its key benchmarks by half a percentage point Thursday and vowed a similar move in March. The Frankfurt-based policymakers are moving aggressively to get on top of price spikes that have slowed but are still hurting households in the 20 countries that use the euro currency.
The bank said it “will stay the course in raising interest rates significantly at a steady pace and in keeping them at levels that are sufficiently restrictive to ensure a timely return of inflation to its 2% medium-term target.”
The Bank of England also went big with a half-point hike Thursday, but the Fed pulled back a day earlier, slowing to a quarter-point hike.
While ECB President Christine Lagarde essentially announced the move at the bank’s December meeting, her remarks at a news conference Thursday will be scrutinized for clues about how much further policymakers intend to go this year in tightening credit for banks, consumers, businesses and governments.
The bank said in a statement that “keeping interest rates at restrictive levels will over time reduce inflation by dampening demand and will also guard against the risk of a persistent upward shift in inflation expectations.”
The ECB’s bigger moves compared to the Fed partly reflect a later start in raising rates in July, four months after the U.S. central bank made its first increase, and from lower levels. That means more ground to make up.
Raising rates makes it more expensive for consumers to borrow for purchases like homes and cars and for companies to fund expansions. That is designed to cool demand for goods and upward pressure on prices, which increased in the eurozone at an annual rate of 8.5% last month.
Inflation is one of the key factors holding back economic growth, robbing consumers of spending power as higher food and energy prices consume their paychecks.
High energy prices tied to Russia’s war in Ukraine have driven up utility bills for households and businesses, which have passed on those extra costs to shoppers and diners. That’s been the major driver of European inflation, which is well above the ECB’s target of 2% considered best for the economy.
Workers across continental Europe and in the United Kingdom have been holding strikes and protests to demand that their pay keep pace with the soaring cost of living.
While interest rate hikes are the usual cure for inflation, they also mean people are facing sharply higher mortgage rates to buy homes and banks that are becoming more restrictive with loans.
And central bank action can hold back economic growth if they go too far. The eurozone’s economy already has stagnated – it grew only 0.1% in the last three months of 2022.
ECB officials say decisive action now will prevent inflation from becoming ingrained in wages, prices and people’s expectations and force more drastic action later. Bank officials say economic growth should recover more strongly later in the year, expecting a 0.5% increase in output – still less than 3.5% in 2022.
The ECB’s benchmark for lending now stands at 3%, and the rate on deposits left overnight by commercial banks is 2.5%. The key U.S. federal funds rate after Wednesday’s meeting is at 4.5% to 4.75%.