Christine Lagarde, President of the European Central Bank (ECB).
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President of the European Central Bank Christine Lagarde has repeatedly used the phrase “stay the course” when referring to the upcoming rate decision, but some market watchers doubt the bank will maintain its hawkish stance for much longer.
The ECB went into tightening mode last year with four rate hikes in an attempt to control high inflation across the eurozone. These decisions moved the main deposit rate from -0.5% to 2%.
Recent data has shown two-month consecutive decline in headline inflation, but that’s still well above the ECB’s 2% target, hence several comments from ECB officials about the need to continue raising rates, including Lagarde’s “we’ll hold the course to ensure a timely return of inflation”.
But ECB watchers are asking: for how long?
“Uncertainty is higher about the ECB’s moves after March, with several hawkish members of the Governing Council hinting at further hikes in the second quarter,” Francesco Maria Di Bella, fixed income strategist at UniCredit, told CNBC.
“The size of these rate hikes will depend on the inflation outlook. Lower price pressures are likely to allow the ECB to hike by 25 basis points in May and June instead of 50,” he added.
ECB Executive Board member Fabio Panetta reportedly said earlier this week that the central bank should not pre-commit to any specific rate changes after its March meeting.
Markets have priced in 50 basis points for two more policy meetings, one next week and the other in March.
“Panetta’s speech shows that the ECB doves are regrouping, but the hawks are still firmly in charge of at least the next few meetings, for which our base case scenario is two 50 basis point hikes,” said Davide Oneglia, director of TS Lombard. email to CNBC.
The ECB, which has been the central bank of the region since 1991, has historically been more dovish after many years of moribund inflation. But the energy crisis, tight supply chain issues and other headwinds have driven prices higher across the bloc and led to a new tone from the central bank.
A Reuters poll published earlier this week showed markets expected the ECB to suspend rate hikes in the second quarter once its deposit rate reached 3.25%.
“How far the ECB will actually be able to go after March remains to be seen,” Oneglia said, adding that “a final rate of 3.50-3.75% seems possible” but the ECB “cannot deviate too long from rates’. Fed.”
Traders began to consider whether the Federal Reserve could end its tightening cycle in the coming meetings after weaker-than-expected data last week.
“So if the U.S. were to enter a more severe recession than expected and/or the Fed cut rates aggressively in response to any slowdown, [the] ECB rate hikes could stop earlier,” he said.
However, economic data in the Eurozone appears to be surprisingly on the upswing. Flash eurozone composite purchasing managers figures released on Tuesday showed positive growth.
That reduces the chances that the ECB will have to end or even return to its hawkish tone, but analysts don’t think the central bank will have to keep pace much longer.
Capital Economics’ Andrew Kenningham also told CNBC that he expects another 50 basis point increase in February and March, followed by 25 basis points in May and June.
“After that, we see the base rate remaining unchanged until the second half of 2024,” he added.
One aspect to consider is how inflation could ease further in the coming months as energy costs continue to fall.
Anticipating what the ECB will announce next week, Kenningham said: “The language will be hawkish and will emphasize the need to go further and ‘hold the course’ without explicitly stating the volume and dates for rate hikes.”