European Central Bank (ECB) Raises Rates by 0.75%

The Governing Council of the European Central Bank (ECB) voted to raise three key interest rates by 75 basis points (bp) each on Sept. 8, 2022, to take effect on Sept. 14. The goal is to bring annual inflation back down to the ECB’s medium-term target of 2%. The ECB’s Governing Council indicates that, during its next several meetings, it “expects to raise interest rates further to dampen demand and guard against the risk of a persistent upward shift in inflation expectations.”

The ECB indicates that eurozone inflation reached a 9.1% annual rate in August, according to a flash estimate from Eurostat. Meanwhile, ECB staff have revised their inflation projections significantly upward, forecasting average annual inflation figures of 8.1% in 2022, 5.5% in 2023, and 2.3% in 2024.

Drivers of Eurozone Inflation

The ECB cites these factors as the main drivers of rising inflation right now in the eurozone: “soaring energy and food prices, demand pressures in some sectors owing to the reopening of the economy, and supply bottlenecks.” Additionally, the ECB warns that pressures on prices “have continued to strengthen and broaden across the economy,” with the result that inflation may continue to rise “in the near term.”

Economic Slowdown and Stagnation

The ECB observes that, after rebounding in the first half of 2022, the eurozone economy is now experiencing a “substantial slowdown” and is expected to “stagnate” from later in 2022 through the first quarter of 2023. In the ECB’s view, the main culprits are very high energy prices that are reducing people’s purchasing power; supply bottlenecks that are easing but still constraining economic activity; and an “adverse geopolitical situation, especially Russia’s unjustified aggression towards Ukraine, [that] is weighing on the confidence of businesses and consumers.”

The Rates Being Increased

The three key interest rates being increased by the ECB are those on: the main refinancing operations, the marginal lending facility, and the deposit facility. As noted above, each will be increased by 75 basis points. The new rates will be, respectively, 1.25%, 1.50%, and 0.75%. This change will take effect on Sept. 14.

Effect on Asset Purchase Plans

The ECB’s Governing Council indicates that it intends to continue reinvesting, “for an extended period of time,” all principal payments received from maturing securities that were acquired under its Asset Purchase Programme (APP). Regarding the Emergency Purchase Programme (EPP), the ECB plans to reinvest all principal payments from maturing securities until at least the end of 2024.