The ECB has announced it will be hiking rates in July and September to counter record inflation.
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Euro zone inflation reached a new record high in June just ahead of the European Central Bank’s first rate increase in 11 years.
Headline inflation came in at 8.6% (year-on-year) for last month, according to preliminary figures from Europe’s statistics office Eurostat released Friday. That beat a prediction of 8.4% in a Reuters poll of economists. The rate had reached 8.1% in May which means the cost of living is continuing to surge across the euro zone nations.
Germany surprised many earlier this week when it reported a drop of 0.5 percentage points in inflation month-on-month. Experts said this was due to new government subsidies to ease the impact of higher energy prices and it was not yet the end of surging inflation rates.
But both France and Spain experienced new inflation records in June with the latter surpassing the 10% threshold for the first time since 1985, according to Reuters.
The ECB, which has vowed to tackle the surge in prices, is due to meet in late July to announce it’s increasing rates. The central bank has said it will hike again in September, meaning its main interest rate could return to positive territory this year – the ECB has had negative rates since 2014.
Speaking earlier this week, ECB President Christine Lagarde struck a hawkish tone.
“If the inflation outlook does not improve, we will have sufficient information to move faster,” Lagarde told an audience in Sintra, Portugal, about the period after that September hike.
However, there are growing questions about the future of monetary policy in the euro zone amid fears of a recession in the coming months. If the central bank were to move quickly in hiking rates, this could hamper economic growth even further at a time when a slowdown is already underway.
Recent business activity data suggests that the euro area is already losing steam. The overall question is whether the euro zone will manage to escape a recession this year, or if that will come in 2023.
Berenberg economists forecast a recession in the euro zone in 2023 with a GDP (gross domestic product) contraction of 0.8%.
However, further economic pressures from Russia’s invasion of Ukraine – most notably over energy and food security – could tip the region into a more proacted slowdown earlier than expected.
So far, European officials have avoided talk of a recession.
“We are still expecting positive growth rates due to the domestic buffers against the loss of growth momentum,” Lagarde said earlier this week. The ECB forecast in June a GDP rate of 2.8% for the region this year. New forecasts will be published in September.
However, policymakers in Frankfurt are aware that the economic slowdown is a major risk they need to monitor.
Philip Lane, the bank’s chief economist, said it needs to remain vigilant over the coming months.
“With the uncertainty, we have to manage the two risks,” Lane, who is also a member of the bank’s Governing Council, told CNBC’s Annette Weisbach Tuesday at the ECB’s Sintra Forum.
“On the one hand, that could be forces that keep inflation higher than expected for longer. On the other side, we do have the risk of a slowdown in the economy, which would reduce inflationary pressure,” he added.
Speaking in a flash research note after the data release Friday, Andrew Kenningham, the chief European economist at Capital Economics, said that the 8.6% figure is “probably not enough to bring a 50bp rate hike (rather than 25bp) back into play for July. . “
“As policymakers are increasingly uncomfortable with their negative-interest rate policy we expect to see bigger rate hikes from September, with the deposit rate rising to + 0.75% by year-end,” he said.