The European Central Bank made its largest-ever interest rate increase Thursday, following the US Federal Reserve and other central banks in a global stampede of rapid rate hikes meant to snuff out record inflation that is squeezing consumers and pushing Europe toward recession. The bank's 25-member governing council raised its key benchmarks by unprecedented three-quarters of a percentage point for the 19 countries that use the euro currency.
The ECB usually moves rates by a quarter-point and had never raised its key bank lending rate by three-quarters of a point since the euro's launch in 1999. The jumbo increase is aimed at raising the cost of borrowing for consumers, governments, and businesses, which in theory slows spending and investment and cools off soaring consumer prices by reducing the demand for goods.
Analysts say it's also aimed at bolstering the bank's credibility after it underestimated how long and how severe this outbreak of inflation would be. After reaching a record 9.1% in August, inflation may rise into double digits in the coming months, economists say. The war in Ukraine has fuelled inflation in Europe, with Russia sharply reducing supplies of cheap natural gas used to heat homes, generate electricity, and run factories. That has driven up gas prices by 10 times or more.
European officials decry the cutbacks as blackmail aimed at pressuring and dividing the European Union over its support for Ukraine. Russia has blamed technical problems and threatened this week to cut off energy supplies completely if the West institutes planned price caps on Moscow's natural gas and oil. Economists say the ECB's interest rate hikes could deepen a European recession predicted for the end of this year and the beginning of 2023, caused by higher inflation that has made everything from groceries to utility bills more expensive.
Energy prices are beyond the ECB's control, but the bank has reasoned that rate hikes will prevent higher prices from being baked into expectations for wage and price deals and that decisive action now will forestall the need for even bigger hikes if inflation gets ingrained. Europe's central bank “wants to fight inflation – and wants to be seen as fighting inflation,” said Holger Schmieding, chief economist at Berenberg bank. Though energy prices and government support programs to shield consumers from some of the pain will “have a much bigger impact on inflation and the depth of the looming recession than monetary policy,” he said.
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