The European Central Bank (ECB) once again encounters an unexpected enemy when it comes to transmitting its monetary policy. The markets (through investor decisions) are making financial conditions more flexible than the ECB would like. This could have an unintended impact on inflation expectations, the credit market and prices (as measured by the CPI), so the ECB will need to remain alert. The first movements are already being seen with the statements of several members of the Council of Governments (the hawks)but if this is insufficient, the ECB could be forced to raise interest rates even further.
The European Central Bank has had to raise the deposit rate to 4%. However, key market interest rateslike the Euribor, have begun to quote future scenarios, anticipating rate cuts in the Eurozone, which has set off alarm bells in Frankfurt, where they consider that the fight against inflation is still far from being over.
Pierre Wunsch, member of the Governing Council of the ECB, has warned that borrowing costs may have to increase again if investors’ bets on monetary easing undermine the institution’s political stance. This speech contrasts with the statements of other members of the Government Council who They speculated on setting a date for the first reduction in interest rates in the Eurozone.
Markets are taking an “optimistic” view by ruling out the possibility of further increases and expecting the first reduction in the ECB’s deposit rate from its current level of 4% as early as April, says the head of the Belgian central bank in an interview in Frankfurt.
The ECB’s fear of the markets
“Is it a problem if everyone believes that we are going to cut?… Then we have a less restrictive monetary policy. And I am not sure that then our policy is restrictive enough. Therefore, increases the risk that it will have to be corrected in the other directionThe ECB left interest rates unchanged last month for the first time in its hiking cycle, although it warned that they have to stay there for a “sufficient period” for inflation to return to the 2% target. Some officials They have indicated that this rules out a movement in the first half of next year.
Market bets on possible cuts in borrowing costs (interest rates) have appeared after various data showed that the region is slowing sharply, while inflation loses intensity at high speed. But ECB officials are still concerned about wage increases and that the conflict in the Middle East could cause energy prices to rise again.
“I think the markets today are relatively optimistic and exclude the possibility that we have to do more or that we have to stay at 4% for longer,” says Wunsch, who is among the most hawkish members of the Governing Council.
There will be no interest rate cuts
All this joins the statements of another of the established hawks of the ECB, Robert Holzmann, who came to the fore last week to underline that the ECB will not trim interest rates in the second quarter of 2024explaining that market expectations of a reduction are premature. The ECB may not yet have reached the end of its rate-hiking campaign, as the inflation outlook carries uncertainties related to wage dynamics and food pricesHolzmann told reporters in Vienna.
“That would be a little early,” Holzmann said, referring to the second quarter. “We are still trying to communicate, please, “Don’t think we’re already at the end of the road.”. Holzmann, traditionally one of the ECB’s most hawkish policymakers, made the remarks in reaction to markets pricing in a full percentage point of cuts next year amid signs of a slowing economy.
With everything, the heart of the ECB seems once again at odds between members who want to ‘kill’ inflation once and for all at any cost and those who are betting on greater growth of the economy at the expense of leaving inflation ‘alive’. The risk for the former, the ‘hawks’, is that their policies will lead the economy into a serious recession. The risk assumed if the latter, the ‘doves’, are imposed, is that inflation will return strongly in the coming quarters.