ECB likely to stick to big rate hike despite banking turmoil

Policymakers at the European Central Bank are leaning towards a half-point rate rise on Thursday, as the banking sector crisis subsides, the eurozone economy strengthens, and inflation is expected to remain too high for years.

When the collapse of Silicon Valley Bank (SVB) in the United States sent vibrations across global financial markets this week, investors began to question the ECB’s commitment to another large rate hike.

Nevertheless, a source close to the ECB’s rate-setting Governing Council said there was no fundamental shift in the outlook, so abandoning a publicly repeated vow to raise interest rates by 50 basis points on Thursday would jeopardise credibility.

Fresh data released on Wednesday indicated that the eurozone’s massive industrial sector increased more faster than predicted in January, while Germany, the bloc’s largest economy, was also strengthening.

After the Reuters article, futures on German government bonds, the eurozone’s benchmark, plummeted, while ECB rate expectations increased, reversing direction following the unprecedented volatility caused by SVB’s fall.

A spokeswoman for the ECB declined to comment, according to Reuters.

Although the market turmoil could make the ECB more cautious in outlining future rate hikes, its main problem, that inflation is far to high, has not changed.

The source said that the ECB’s new projections for the years ahead will be lower than in December but they still put price growth well above the central bank’s 2% target in 2024 and slightly above it in 2025.

Furthermore, forecasts for core inflation, which excludes food and energy prices, were set to be revised higher, emboldening calls for more rate hikes by policy hawks on the ECB’s Governing Council, the source added.

Much of the inflation outlook hinges on wage growth, which is still catching up after rapid inflation, but the 5% to 6% expansion expected this year is inconsistent with 2% inflation so moderation will be needed.