Exclusive: ECB Insider: Plan Now Is to Hike at Least Three Times in a Row by 50bp

16 December 2022

Exclusive: ECB Insider: Plan Now Is to Hike at Least Three Times in a Row by 50bp
- ECB insider: Very clear that we’re going to hike by 50bp in February
- ECB insider: Wouldn’t be surprised if someone questions need for 50bp in March
- ECB insider: Policy will be restrictive as of February rate hike
- ECB insider: Terminal rate has now risen
- ECB insider: December Governing Council decision could have gone either way, 50bp or 75bp
- ECB insider: QT’s impact on monetary policy tightening is ‘minimal’
- ECB insider: QT complements rate hikes, not a substitute for them
- ECB insider: ECB staff probably assumes no need for more big revisions in next projection exercise
- ECB insider: See upside risks to 2025 inflation, especially to core

By David Barwick – FRANKFURT (Econostream) – The European Central Bank expects to implement at least three consecutive rate hikes of 50bp, the first being the one decided Thursday, in the view of a Eurosystem insider who spoke to Econostream following the latest Governing Council monetary policy meeting.

However, while there is little doubt that the February meeting will indeed bring a rate hike of the envisaged magnitude, taking the ECB into restrictive territory, at the March meeting it is entirely possible that there will be new calls to slow the pace of tightening, this person felt.

There were essentially three groups of policymakers at yesterday’s Council meeting, he said: one clearly for 75bp, a second consisting of those whose choice would have been for 50bp if not less, and a ‘small but important number of people who said, “I would prefer 75, but I could live with 50.”’

Had there been a formal vote on a proposal in favour of a 75bp hike, it could have been the outcome, he said. As it was, the proposal was for 50bp and this got ‘a broad consensus’ even if many members had doubts as to the preferability of the smaller option, he said.

The idea was that then ‘we need to have this very hawkish communication that in a way compensates, and they agreed to the proposal’, he said. ‘The plan is now to have at least three consecutive hikes’ of 50bp.

That outcome, though, would only prove appropriate if the ECB sticks to its guns, he said. And although ‘it’s quite clear that in February were going to have 50’, he said, ‘in March, I won’t be surprised when somebody starts asking, “Why 50?”’, especially if the staff projections remain unchanged or show any improvement in the inflation outlook.

This person was notably less sanguine about future euro area inflation, asserting that 2025 inflation and in particular the core measure were subject to upside risks, many of them still in the pipeline. ‘Economic logic says that strong forces are starting to kick in’, he said, citing wage increases, the pass-through of past energy price rises and tight labour markets.

‘I’m not convinced that inflation pressures … will be switched off that easily’, he said, noting that even ECB staff had threatened to lay down work over wage issues.

The ECB might have painted itself into a corner by appearing to promise repeated hikes of 50bp, he said.

‘The March projections will be very important, because they will determine how we continue’, he said. ‘What I’m afraid of is that if they’re still getting worse, we’ll look back at December and might have a feeling that we made a mistake.’

Quantitative tightening did not by itself compensate for the 25bp of tightening foregone as a result of the decision to hike by 50bp rather than 75bp, he said. QT ‘is a separate thing’ with only ‘minimal’ impact in terms of monetary policy tightening, he said.

‘It’s more about reducing our accommodative holdings, reducing excess liquidity in the banking system and aligning all our instruments in the same direction’, he said. ‘It’s a complement, but it’s not a substitute.’

That left ECB President Christine Lagarde’s rhetoric to do the heavy lifting of selling the deceleration to markets, he said. That, he said, was ‘the whole idea, it should compensate. It’s very important that it compensates.’

However, despite the hawkishness of her language, ‘language is not always enough’, he said. Whilst personally able to live with the decision for 50bp - even if he considered 75bp necessary - the 25bp difference wasn’t the entire story, he said.

‘It’s more about showing your determination and sending the right signals when you revise the projections up and inflation risks are on the upside, the economy is better, the labour market is tight, and you see at least the potential for further pipeline pressures’, he said.

The apparent contradiction between Lagarde’s willingness to provide, in effect, forward guidance, even if she rejected the characterisation, and her adherence to the meeting-by-meeting, data-driven approach is explained by the apparent confidence of ECB staff that, following the particularly pronounced revision in the latest projection exercise, such an outcome in the March round was unlikely, he said.

‘And then this implies that you can in a way see the potential interest rate path into the future’, he said. ‘So, for the next several meetings.’ However, he observed, the monetary policy statement makes no explicit reference to forward guidance, ‘so this leaves room for change if the situation changes in comparison to how we see it now.’

‘But I don’t think it will change to the dovish side’, he said. ‘I don’t see it.’

To the assertion that surely the ECB would not go back up to 75bp, he responded that he could not be sure what the outcome would be if the March projections worsened. But taking into account all the views expressed at the Council meeting, ‘I would say we will continue with 50bp hikes then, rather than go to 75bp, but the 50s for longer.’

However, he suggested, this was the realm of speculation for now, as at the ECB, ‘nobody’s thinking beyond March’ yet.

With respect to Lagarde’s comment that the ECB’s staff projections incorporate market expectations of the terminal rate and still ‘do not certainly allow a return to the 2% inflation target that we have in a timely manner’, this person said he ‘absolutely’ agreed with her. ‘I don’t know the terminal rate, but it’s too low.’