The European Central Bank (ECB) plans to raise interest rates next month for the first time since 2011 after warning that inflation would rise more than previously estimated.
Resisting demands for a 0.5% increase next month, the ECB’s governing council said the base rate for the 19-member currency block would rise 0.25% with an additional increase and possibly larger scheduled for September.
The rise in July will raise the main deposit rate of commercial banks by -0.5% and increase the credit rate by 0% to the equivalent base rate of the Bank of England by 1%.
Monthly injections of e-funds into the economy, known as quantitative easing, will also stop in July, although ECB lending will remain at around £ 8bn, or 63% of output. annual gross domestic product of the euro area.
At a meeting in Amsterdam, the governing council said inflation had become a “major challenge” and inflationary forces had “expanded and intensified”.
According to its latest forecasts, inflation will average 6.8% this year, well above the 5.1% forecast in March, before falling to 3.5% in 2023 and 2.1% in 2024.
Officials said they were concerned that the Russian invasion of Ukraine had affected “confidence, consumption and investment”, leaving the eurozone with weaker growth prospects.
“It is disrupting trade, causing a shortage of materials and contributing to the high price of energy and raw materials. These factors will continue to weigh on confidence and slow growth, especially in the short term,” the ECB said. .
However, the invasion was unlikely to plunge the eurozone into recession, he said, adding: “The conditions are being set for the economy to continue to grow due to the reopening of the ongoing economy, a strong labor market, [government] accumulated support and savings during the pandemic “.
Eurozone inflation rose to more than 8% last month and could peak in the third quarter ahead of a slow decline by the ECB.
Extremely high energy prices were to blame for most of the rise in inflation. Food prices were also rising rapidly, while underlying price growth, which filters out volatile food and fuel prices, was well above 2%.
Hetal Mehta, a senior European economist in Legal & General Investment Management, said there was a high risk that the eurozone would enter a recession next year.
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He said Italy would be the most vulnerable to higher interest rates after its debt-to-GDP ratio rose to 160% during the pandemic.
“The European Central Bank is in a difficult position, with extremely high inflation, slow growth and a tightening of the labor market. We now see that the risk of a recession in the euro area reaches 60% for the second mid-2023, ”Metha said.
“The ECB’s higher interest rates and the costs of Italian loans call into question the sustainability of Italian debt. As a result, the ECB will have to be more” predictable “when raising interest rates. , much more than we have seen from other central banks such as the Federal Reserve or the Bank of England. “