Market Wire: European Central Bank Raises Rates 50 Basis Points, Lifting Odds on Fed Hikes
The European Central Bank (ECB) has lifted all three of its benchmark rates by 50 basis points, opting to continue its inflation-fighting campaign even as financial stability risks threaten the growth outlook in the common currency area. In the statement setting out the decision, the Bank said, “Inflation is projected to remain too high for too long,” but “The elevated level of uncertainty reinforces the importance of a data-dependent approach to the Governing Council’s policy rate decisions, which will be determined by its assessment of the inflation outlook in light of the incoming economic and financial data, the dynamics of underlying inflation, and the strength of monetary policy transmission”.
“The Governing Council is monitoring current market tensions closely and stands ready to respond as necessary to preserve price stability and financial stability in the euro area, but “The euro area banking sector is resilient, with strong capital and liquidity positions”. “In any case, the ECB’s policy toolkit is fully equipped to provide liquidity support to the euro area financial system if needed and to preserve the smooth transmission of monetary policy.”
Growth expectations were lifted, and inflation forecasts revised down. According to updated projections, lower energy prices and a more resilience economic backdrop should push the euro area toward a 1 percent expansion in 2023, accelerating further to 1.6 percent in 2024 and 2025. Headline prices are seen rising 5.3 percent this year, before slowing to 2.9 percent in 2024 and 2.1 in the following year.
Policymakers noted, however, that the new projections “were finalised in early March before the recent emergence of financial market tensions. As such, these tensions imply additional uncertainty around the baseline assessments of inflation and growth”.
In the minutes after the announcement, the euro leapt upward, but then slipped as intra-bloc rate spreads widened, with investors positioning for additional stress in small and regional banks. Terminal rate pricing moved up marginally.
Odds on a 50 basis point move had plunged earlier on a Bloomberg report suggesting policymakers might be getting cold feet. According to the article, Vice President Luis de Guindos warned finance ministers on Tuesday that - although few were exposed to the collapse of Silicon Valley Bank - some European lenders might be vulnerable to rising interest rates because of their business models. This was before problems at Credit Suisse forced the Swiss National Bank to step in with a 50 billion-franc liquidity injection.
But the decision also served to anchor the dollar higher: with their European counterparts refusing to blink in the face of a rise in financial instability, policymakers at the Federal Reserve seem less likely to do so. Bets on a quarter point move at next week’s meeting are moving higher as we write.