The European Central Bank hiked interest rates by three quarters of a percentage point on Thursday, promising further hikes to come and forecasting an extended economic slowdown.
The move will take the benchmark rate for the 19 countries using the euro to 1.5%. The central bank has now hiked rates at three consecutive meetings by a combined 2 percentage points in a bid to get control of inflation even as a recession looms. Before the hiking cycle began, rates in the region had been negative since 2014.
“Inflation remains far too high and will stay above the [2%] target for an extended period,” the ECB said in a statement. “In recent months, soaring energy and food prices, supply bottlenecks and the post-pandemic recovery in demand have led to a broadening of price pressures and an increase in inflation,” it added.
The eurozone’s annual rate of inflation hit a record 9.9% in September, up from 9.1% in August.
The “unexpected and extraordinary” rise in inflation had surprised policymakers, ECB President Christine Lagarde told reporters on Thursday. She said that increases in retail energy prices could push inflation even higher in the medium term.
“The risks to the inflation outlook are primarily on the upside,” she added.
Alongside rising prices, the bloc is battling a worsening economic slowdown. That makes the central bank’s job even more difficult, because interest rate hikes tend to weaken demand as they make it more expensive to borrow money.
An energy crisis, sparked by Russia’s invasion of Ukraine, has weighed heavily on sectors such as manufacturing. At the same time, a broader cost-of-living crisis has knocked spending on goods and services.
According to a gauge of activity in the manufacturing and services sector published on Monday, the eurozone’s economic downturn deepened in October. Germany reported the steepest economic contraction, while growth in France stalled, S&P Global’s Purchasing Managers’ Index showed.
Lagarde acknowledged that risks to the economic growth outlook are “clearly” on the downside. “Economic activity is likely to have slowed significantly in the third quarter of the year and we expect a further weakening in the remainder of this year and the beginning of next year,” she added.
Lagarde said that European banks were tightening credit standards on loans, as they became more concerned about the the risks faced by their customers in the current environment.
Despite the gloomy economic outlook, Lagarde said that the ECB still has “ground to cover” and will hike rates further. “The ultimate destination that we want to reach is the rate that will deliver the 2% inflation target in the medium term,” she added. “We’ve got to do what we’ve got to do. Our job is price stability.”
According to Carsten Brzeski, chief economist at ING Germany, the ECB has embarked on its “sharpest and most aggressive hiking cycle ever,” indicating a “paradigm change” at the central bank.
“At the current juncture of a looming recession and high uncertainty, normalising monetary policy is one thing but moving into restrictive territory is another thing. With today’s rate hike, the ECB has come very close to the point at which normal could become restrictive,” he wrote in a research note Thursday.
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