ECB Insight: Knot May Be Getting Ahead of Himself in Supporting Another 75bp Hike
31 October 2022
By David Barwick – FRANKFURT (Econostream) – Just days after the European Central Bank Governing Council decided to hike interest rates by a whopping 75bp for the second time in a row, one of its leading hawks, Klaas Knot, has positioned himself as leaning in the direction of a third such outsize step. He may be getting ahead of himself.
Speaking on Dutch television over the weekend, Knot, who heads De Nederlandsche Bank, presented the choice facing the Council at its December monetary policy meeting as one between 50bp and 75bp. The latter option ‘would be possible, but it’s too early to say’, he said. ‘We still have six more weeks to go and there are still a lot of economic numbers coming out.’
Let’s not get caught up in the apparent contradiction of a declaration of feasibility of 75bp juxtaposed alongside the self-evident observation – which he then elaborates on - that it would be premature to call anything now. This is just a central banker with a particularly hawkish agenda endeavouring to get out in front of the debate and shape it in terms of that agenda.
Taking a broader view, what we think it’s too early to say and indeed would call into question is whether the hawks on the Governing Council are going to retain the upper hand. We see a markedly risen risk that December could be the month their grip loosens. At this point, we would be disinclined to expect yet another 75bp to be the outcome of that meeting.
Last week’s gathering offered a foretaste hard to overlook of a more dovish tone to policy ahead. ECB President Christine Lagarde expressed a vaguer, less ambitious expectation of ‘further rate increases’, as opposed to her more explicit promise six weeks earlier of ‘hikes in the next several meetings’.
She noted as well that ‘[a]t some point in time, we will have of course to identify the rate which will deliver the 2% medium-term target that we have.’
To be sure, she essentially said that on September 8 as well, but with the difference that in September, she sounded as if the terminal rate were still safely beyond the horizon and the ECB could thus close in on it via arbitrarily large rate moves. Last week, she sounded more as if the ECB needed to start paying attention to the possibility, even if not necessarily imminent, of running up against it.
Moreover, whilst reiterating the data-dependent, meeting-by-meeting approach, Lagarde on Thursday also volunteered ‘three key factors’ to explain ‘how we are going to work in the next meetings’. In particular, the ECB’s consideration of the inflation outlook ‘takes into account the evolution of the economy, including the higher likelihood of a recession’, she said.
‘Second is, we will also take into account the measures that we have taken so far because in the last three meetings including this one, we have hiked by 200 basis points’, she continued. Finally, the ECB ‘will also be attentive to the transmission lag of monetary policy’, meaning that it would keep in mind that the impact of past tightening moves remains in the pipeline.
All of this clearly lays the groundwork for the ECB to take things a bit easier as it continues to pursue normalisation.
There is also the fact that last Thursday’s decision did not, according to reports, enjoy the support of the entire Governing Council, with several members favouring a smaller step.
At some point, the most dovishly inclined members were bound to stop going along for the sake of unity, and in fact we reported two days before the meeting that some of those in attendance were likely to advocate a more moderate rate hike.
In the end, the hawks got their way yet again in October, but that sets the stage for resistance in December to be that much stiffer. A further deterioration of economic prospects will strengthen the doves’ hand, and the new 2025 staff HICP projection - which Lagarde noted would play a role and which could well show inflation back in line with price stability at the forecast horizon - seems likely to do the rest.