ECB doves soar as interest rates set to rise in July

The European Central Bank is gaining momentum to raise interest rates in July to tackle soaring inflation, after dovish policymakers signaled they were ready to accept the end of nearly eight years negative borrowing costs.

ECB Chief Economist Philip Lane and Executive Board member Fabio Panetta have signaled that they are now more open to a rate hike in the coming months, following calls from hawks in the Governing Council to carry out the first rise in more than a decade earlier than later.

The hawkish turn comes after eurozone inflation hit a record 7.5% in April and brings the ECB closer to the Federal Reserve and the bank of england, both of which raised rates this week. However, eurozone monetary policymakers are still far behind their peers in the US and UK in the cycle of rising interest rates.

The ECB has set borrowing costs below zero since June 2014, when it was still battling the European debt crisis. The deposit rate is now minus 0.5%.

On Friday, the additional borrowing costs demanded by investors to hold Italian debt relative to that of Germany exceeded 2 percentage points for the first time since 2020, underscoring fears that any tightening by the ECB of Monetary Policy will mainly affect the riskiest countries in the euro zone.

The so-called “spread” between the two bond yields is a closely watched barometer of investor concerns about political and economic risks in the euro area.

For many years hawks far outnumbered doves among ratemakers, but soaring inflation has amended the balance of power in recent months. Politicians such as Vice President Luis de Guindos and board member Isabel Schnabel have said a series of rate hikes could begin by July. Many economists expect the deposit rate to rise 0.25 percentage points to minus 0.25% at the July meeting.

Lane, considered one of the more dovish members of the rate-setting board, said Thursday: “It’s clear that at some point we’re going to move rates not just once, but over time in a sequence.” When asked if it could happen in July, he Told an event at the Bruegel think tank that the timing of the ECB’s first rate hike “should not be seen as the most important issue.”

“Once we start moving. . . then the whole conversation will be, ‘OK, how much are you going to make and how fast,'” he said, adding that ‘normalization’ would mean rates above zero, provided inflation stays on the right track. way to reach the central bank’s 2 percent. cents goal.

The comments mark another change from Lane, who in February was still predict most of the inflation would “fade” within 12 to 18 months, minimizing the urgency for a policy change.

Panetta, the more dovish member of the ECB’s board, continued to push back against the idea of ​​raising rates at its July 21 meeting. narrative La Stampa Thursday that it should wait to see what second-quarter growth data showed later that month.

However, he also said that given rising inflation expectations, the ECB could “gradually reduce the level of monetary accommodation.” He added: “Under the current circumstances, negative rates and net asset purchases may no longer be necessary.”

“This is probably the time when the doves cry and capitulate under too much pressure from the hawks,” said Carsten Brzeski, head of macro research at ING. “It’s fair to say that Panetta’s and Lane’s attempts to prevent a rate hike in July were halfhearted to say the least.”

The more centrist members of the ECB’s governing council, which includes the heads of national central banks in the euro zone as well as board members, also decided to back a rate hike in July.

Banque de France Governor Francois Villeroy de Galhau said in a speech on Friday that he “would not prevent” a rate hike at future board meetings, adding: “Barring new unforeseen shocks, I think it is reasonable [for policy rates] to have entered positive territory by the end of this year.

Villeroy said the ECB needed to “watch exchange rate developments carefully” after the euro fell to a five-year low of $1.05 against the dollar, fueling inflation by pushing up import prices. “A euro that is too weak would run counter to our objective of price stability,” he said.

Katharina Utermöhl, economist at Allianz, said: “Recent communication from several senior officials suggests that the ECB in early May has almost already made up its mind about raising interest rates as early as July.”

Finland’s central bank chief Olli Rehn said on Thursday: “I think it would be justified to raise the deposit rate by 0.25 percentage points in July and bring it down to zero in the fall. ” The ECB is expected to continue its tightening policy despite the risk of a eurozone recession next year, Rehn added.

“There is no need to delay the normalization of monetary policy,” Rehn said. Told Helsingin Sanomat.

Austria’s central bank hawkish chief Robert Holzmann said on Thursday that the bank would “probably” raise rates at the June policy meeting.

Russia’s invasion of Ukraine and coronavirus lockdowns in China have raised fears that Europe’s economy will suffer an economic downturn this year.

Some economists fear that the ECB may tighten policy on the eve of a recession. The last time the central bank raised rates in 2011 was just at the start of the region’s debt crisis. “Everything reminds me so much of 2011,” said Silvia Ardagna at Barclays.

In early European trading on Friday, the spread between Italian and German bond yields reached the highest level since the depths of the coronavirus crisis in May 2020.

Italy, which has a public debt of over 150% of gross domestic producthas been a big beneficiary of the ECB’s bond-buying programs and historically low interest rates.

Additional reporting by Adam Samson in London

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