European Central Bank to Raise Interest Rates to Contain Slightly Projected Inflation Increase

UTC by Tolu Ajiboye · 3 min read
European Central Bank to Raise Interest Rates to Contain Slightly Projected Inflation Increase
Photo: World Economic Forum / Flickr

Amid several macro-economic conditions, the European Central Bank wants to hike interest rates without worsening the economy.

The European Central Bank’s Governing Council recently announced plans to increase its key interest rates by 25 basis points at next month’s policy meeting. The central bank also downgraded its growth forecasts because of annual consumer price inflation. In May this inflation across the 19-member euro area hit 9.1%, representing a record high.

However, the ECB suggested in its previous guidance that a first-rate hike would only occur at the end of July 1st net asset purchases.

The European Central Bank (ECB) also expects to raise interest rates further in September. However, it stated that the scale of the hike would depend on some factors. One such factor is the evolving trajectory of the medium-term inflation outlook. A statement from the ECB read:

“Beyond September, based on its current assessment, the Governing Council anticipates that a gradual but sustained path of further increases in interest rates will be appropriate.”

The statement continued:

“In line with the Governing Council’s commitment to its 2% medium-term target, the pace at which the Governing Council adjusts its monetary policy will depend on the incoming data and how it assesses inflation to develop in the medium term.”

As it stands, interest rates on the main refinancing operations remain unchanged at 0.00%. In addition, marginal lending facility and deposit facility interest rates remain at 0.25% and -0.50%, respectively.

Back in April, the World Bank also lowered its growth forecast for 2022.

In Addition to Interest rate Hikes, European Central Bank also Downgrades Growth Forecasts

European policymakers currently face the challenge of containing inflation without worsening the Ukraine war-triggered economic stagnation. In addition, the ECB’s inflation-curbing strategy also has to contend with the associated sanctions and embargoes between the European Union and Russia.

Amid upwardly revising inflation projections, the ECB also downgraded its growth forecasts. As a result, the leading financial institution now projects annual inflation to hit 6.8% in 2022. Furthermore, expectations also suggest that annual inflation would decline to 3.5% in 2023 and 2.1% in 2024.

The ECB pared down growth forecasts by a significant margin to 2.8% in 2022 and 2.1% in 2023. In addition, the central bank also put 2024 at 2.1%. These figures show a substantial difference when compared with projections at the meeting in March, which showed 3.7% in 2022. The same meeting also projected 2.8% in 2023 and 1.6% in 2024.

Before the ECB’s meeting, Professor of economics at the University of Chicago, Randall Kroszner, had commented on the interest rate situation. According to Kroszner, the governing financial institution needed to address alarming interest rates in the region.

“Inflation is very high, it has the potential to become entrenched unless [ECB policymakers] move, and they move aggressively and make it clear that they are going to be moving further,” stated Kroszner in a media session with CNBC.

Furthermore, Kroszner added that the ECB “runs the risk of inflation becoming entrenched”. This would consequently result in higher interest rates than necessary.

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