2 FEB, 2023
By RankiaPro Europe
The European Central Bank decided on Thursday to raise all three key interest rates by 50 basis points and expects to raise them further. In view of underlying inflationary pressures, the Governing Council plans to raise rates by a further 50 basis points at its next meeting on March 16, when it will assess the path of its monetary policy. How have international fund managers reacted to the ECB's announcement? All the details are below.
The ECB today hiked interest rates by 50 basis points, taking the deposit rate to 2.5%. This was much as the market anticipated. However, unlike policymakers at the Bank of England earlier today, the ECB continued to give a firm steer that rates will continue increasing from here.
Indeed, the ECB said it would “stay the course in raising interest rates significantly at a steady pace” and that it “intends to raise interest rates by another 50 basis points” in March. That said, it wasn’t all hawkish. The ECB isn’t at this stage pre-committing to rate rises further out.
Finally, we got some more details on how Quantitative Tightening will operate. The ECB will reduce its balance sheet by E15bn/month, which is about half the pace at which the portfolio is maturing naturally. So partial reinvestments will continue, with a new tilt in corporate bond reinvestments “towards issuers with a better climate performance”. This small detail could end up being the most consequential part of the decision today because it’s the first concrete step in using the ECB balance sheet to further climate objectives.
As expected by the market, the European Central Bank has raised interest rates by 0.50% to 2.50% (depo). This hike was perfectly telegraphed. In fact, Lagarde had already announced at the previous ECB meeting a 50 basis point hike for this first meeting of the year and, since then, there has been no disagreement from any member of the Board. For its part, the Federal Reserve yesterday raised intervention rates by 0.25%, to a range of 4.5%-4.75%.
The ECB Governing Council has adopted a more positive tone regarding its inflation outlook than it did at the December meeting. It noted that inflation represents a somewhat more balanced risk, thanks to lower energy prices that have fallen faster than expected. Conversely, he cautions that they will watch wage inflation carefully, which could keep inflation elevated for longer, thus taking the opportunity to say that they will remain sufficiently restrictive to ensure inflation returns to their 2% target.
The focus of today's meeting of Europe's top monetary body was on comments about upcoming interest rate hikes in March and May. They point to a rise of another 0.5% at the next meeting in March, but she acknowledged that this is not an irreversible decision and that it will depend on macroeconomic data. In addition, Lagarde has indicated that at the March 16 meeting, they will evaluate the path to follow in their monetary policy. She has indicated that they will start with the implementation of the APP tapering in March, at a pace of €15 billion per month.
The market has reacted well to the expected hike, with bond yields falling, just as they did yesterday when Powell added some encouraging comments, such as that for the first time we can talk about disinflation.
The ECB raised rates 50 basis points at its meeting today to 3%, and seemingly pre-committed to another 50 bp hike by stating that it "intends" to raise rates by that amount in March. However, this hard-line pre-commitment was diluted with the statement that the Board will reassess the rate path at the March meeting and the reiteration of data dependence. Chair Lagarde followed up on these overly complicated messages at the press conference, stating that the risks to the inflation outlook have become more balanced, with a greater emphasis on "staying the course," in contrast to the overtly hawkish tone we saw at the December press conference. Fixed income markets overlooked his weak attempts at "hawkishness," focusing on the endpoint of the hikes, which appears close, to put downward pressure on yields.
The ECB hiked policy rates by 50bp at today’s Governing Council meeting and pre-committed to hike by another 50bp in March. The depo rate now stands at 2.50%.
Looking ahead, the ECB is widely committed to keep rates in restrictive territory to reach the inflation target in the medium term. The overall communication by the ECB remains relatively hawkish as the policy stance remains restrictive. That said, the market seems to interpret the lack of commitment beyond the March meeting and the now ‘balanced’ risks for growth and inflation as dovish signals and yields are falling sharply across all the main EGBs curves.
As for the details of QT, a key point is that the €15bn in passive QT will be less than the actual redemption amounts. The remaining reinvestments will be allocated proportionally to the share of redemptions across each QE programme. The ECB also affirmed that predictability would continue to prevail.
Looking at the press conference, we notice a few changes in Lagarde’s comments in comparison to the December meeting. First, the inflation picture seems to be very blurred (there are some positives as energy and supply constraints lessening and some negatives as uncertainties on how long pass-through will persist in core inflation). That said, risks are now more balanced, and we would expect the March projections to show a substantial downward revision. Moreover, financial conditions are seen as tightening considerably and Lagarde has often brought back the weakness of the ECB Lending survey for Q4-22. Lagarde was also very blunt in admitting that policy decisions are a compromise and – this time around – it seems the compromise was to confirm the path for the very new term but leaving the door open for ANY scenario from April onwards.
All in all, the ECB maintained its course of policy hikes today and sees policy rates as the major tool to bring inflation down. The March meeting is a done deal but what lies ahead is far from being clear. The markets see it as a dovish twist.
In terms of near-term catalysts, we note that the ECB is highly data dependent (at least post March) and as such, this ought to raise the prominence of, and market sensitivity to, upcoming wage data and of course, core inflation metrics. Should core inflation persist then ongoing ECB hawkishness remains likely. However, should core inflation show signs of decelerating then doves could be emboldened. All this matters now for the timing of when the market begins to assess rate cuts. At present, rates look like settling around a terminal rate of 3.25% by mid-year. How long they stay there (in restrictive territory amid a weak growth outlook) may well soon become the market preoccupation.
By RankiaPro Europe
By RankiaPro Europe