–Approval of Anti-Fragmentation Tool Allowed Front-Loaded Tightening, Says President Christine Lagarde
–Lagarde does not provide forward guidance, says ECB data-dependent
By Laurie Laird
LONDON (MaceNews) – The European Central Bank raised interest rates by a much-higher than expected 50 basis points following its governing council meeting on Thursday, deviating from the carefully-worded forward guidance issued after the June meeting.
That’s the first hike since July of 2011, taking the deposit facility to 0.0%, with rates rising into the black for the first time in more than six years. The main refinancing rate will increase to 0.5%, while the marginal lending facility will hit 0.75% from 27 July.
The decision caught many forecasters by surprise, after Governing Council pledged to lift rates by just 25 basis points following the June meeting, holding out the possibility of a larger hike in September.
However, ECB President Christine Lagarde said that inflation has spread beyond the volatile food and energy sectors and “will remain undesirably high for some time,” in a media briefing following the rate decision.
Eurozone inflation rose to a new record annual rate of 8.6% in June from 8.1% in May, with upside risks both elevated and growing, added Lagarde.
Members of the rate-setting governing council were more comfortable implementing an unexpectedly-sharp rate hike after “unanimously” agreeing to an anti-fragmentation device called the Transmission Protection Instrument, Lagarde suggested.
The TPI will allow the governing council to purchase bonds of more heavily-indebted member states to “counter unwarranted, disorderly market dynamics that pose a serious threat to monetary policy across the euro area,” according to a statement released at the conclusion of the meeting.
The ECB announced a consultation on such a tool after an emergency meeting last month, following a widening of yield spreads between German and Italian government bonds. That gap expanded further ahead of the ECB statement following the resignation of Italian Prime Minister – and Lagarde’s predecessor as ECB President – Mario Draghi.
Lagarde avoided singling out Italy as a potential beneficiary of the TPI, noting all eurozone members are “eligible” for TPI assistance. While expressing hope that the TPI need not be activated, Lagarde stressed that the “ECB is capable of going big” in the event TPI is necessary.
Governing council members unanimously approved the TPI, Lagarde added, allowing “all members to rally to the consensus decision of a 50-basis point rate hike.”
Further rate hikes are likely at future meetings, according to the monetary policy statement, although Lagarde declined to offer forward guidance for the September meeting, stressing that decisions will be “data dependent.”
Lagarde stressed that Russia’s invasion of Ukraine has “clouded” the economic outlook, although the ECB does not forecast a recession in 2022 or 2023.
The euro hit $1.0278 shortly after the rate decision, but failed to hold that gain, retreating to $1.0209 late in the European afternoon, a gain of 0.3%. The euro is still down by more than 10% this year, falling below US dollar parity last week, weakness that Lagarde cited as exacerbating the inflation outlook. Italian spreads widened after the TPI announcement as the market appeared skeptical Italy would qualify for support.