ECB ups rates to 3.75%

The European Central Bank (ECB) has announced a quarter percentage point increase in its main interest rate, bringing it to 3.75%. This marks a full year of consecutive rate hikes in the euro zone as the ECB attempts to address high inflation, a journey that began in July last year.

Despite a recent decline in inflation, the headline inflation reading for June still stood at 5.5%, down from 6.1% in May, but significantly higher than the ECB’s target of 2%. The latest inflation data for the euro zone is set to be released next week.

Market players had largely anticipated the 25 basis point rate hike, but there remains anticipation about the ECB’s approach after the summer. With inflation easing, concerns linger about whether the current monetary policy could lead the region into an economic recession.

The ECB did not provide explicit forward guidance on future rate moves, but it did suggest the possibility of a potential pause in rate hikes in September. ECB President Christine Lagarde, speaking at a press conference, emphasised that upcoming decisions would be data-dependent. The central bank is “open-minded” about potential rate hikes or maintaining steady rates in September, but Lagarde made it clear that there are no plans to cut rates.

Carsten Brzeski, global head of macro at ING Germany, noted that the accompanying policy statement kept the door open for further rate increases without sounding a more cautious note.

Recent ECB survey data revealed that corporate loans in the euro zone hit an all-time low between mid-June and early July. Additionally, business activity data from Germany and France indicated declines, raising concerns about a possible recession in the euro area this year, as per analysts at ING Germany.

The International Monetary Fund (IMF) predicted that the euro zone would likely grow by 0.9% this year, but this forecast considers a recession in Germany, with an expected GDP contraction of 0.3%.

Alongside the rate hike, the ECB also announced that it would set the remuneration of minimum reserves to 0%, meaning banks will not earn any interest from the central bank on their reserves.

In response to the ECB’s announcement, the euro traded lower against the U.S. dollar, falling by 0.3% to $1.105. However, the Stoxx 600 index experienced a 1.2% jump, while government bond yields declined. These reactions suggest that market players are anticipating further rate increases in the euro zone.