FRANKFURT — The European Central Bank is expected to take its foot off the rate-tightening pedal by opting for a smaller rate hike of 0.25 percent on Thursday, while indicating that further rates are still to come.
The ECB’s decision will follow on the heels of the U.S. Fed, which is also expected to hike by a modest 25 basis points later today but with the market predicting Chair Jerome Powell will signal a possible pause in tightening thereafter.
“We believe the ECB may raise rates by 25 basis points and indicate an intention to hike further,” said Allianz Global Investors’ fixed income chief investment officer Franck Dixmier, referring to the outcome of the central bank’s rate-setting meeting. “While the U.S. Federal Reserve is almost at the end of its monetary policy tightening cycle, the European Central Bank is still far from any pivot.”
A rate hike on Thursday would mark the seventh consecutive hike for the ECB, which has already lifted the key deposit rate from -0.5 percent to 3.0 percent since last July, the most aggressive hiking cycle since the launch of the single currency.
That has added higher borrowing costs to the pain of surging prices for both households and consumers, but the ECB has stressed that tightening is needed to avoid an even more damaging price spiral.
Policy hawks on the Governing Council, including Isabel Schnabel, have stressed that another 0.50 percentage point hike remains on the table, hinging on incoming data. But the tightening impact of previous rate hikes on financing conditions, further intensified by the recent spate of bank collapses in the U.S. and Switzerland, is seen tipping the balance in favor of a more modest move.
Fresh data at the start of this week showed headline inflation inched up to 7.0 percent in April from 6.9 percent in March, following five months of declines. At the same time, however, core inflation — which filters out volatile components of food and energy prices and is seen as a better reflection of the underlying trend — eased for the first time in 10 months.
The ECB’s Bank Lending Survey also showed that banks have become much more cautious about lending, tightening their credit standards at the fastest pace since the euro sovereign debt crisis a decade ago, suggesting that previous rate hikes are starting to feed through into the real economy, slowing both the economy and price growth.
The Bank Lending Survey and the inflation data for April “add to our conviction that the ECB will dial down the pace of monetary policy tightening this week, to a 25bp hike,” said Pantheon Macroeconomics economist Claus Vistesen in a note.
While Berenberg economist Holger Schmieding also bets on a 0.25 percentage points increase on Thursday, he sees a 30 percent chance that policy hawks will push through another 0.5 percentage point hike, pointing to a slew of powerful arguments in favor of aggressive action: current inflation is still three times the target, wage agreements continue to add pressure, and a brief banking tremor in Europe has largely subsided.
Whatever the size of Thursday’s rate hike, President Christine Lagarde will no doubt shy away from signaling an end to tightening, underlining the ECB’s commitment to deliver on its targets and stress that future action will hinge on incoming data. Markets currently bet on the deposit rate peaking at 3.75 percent.
