INA–Follow up
The official minutes of the European Central Bank’s April meeting revealed a growing hawkish sentiment among Eurozone monetary policymakers, paving the way almost definitively for an interest rate hike at the bank’s next meeting in about two weeks. This is seen as a “precautionary” measure to protect the bank’s credibility and prevent inflation from becoming entrenched.
The minutes revealed that the decision to keep interest rates unchanged at the April meeting was a “difficult choice,” and that several members of the Governing Council “would not have objected to raising interest rates had that proposal been on the table.”
They believed that a rate hike would have sent a stronger signal of the bank’s determination to bring inflation back to its 2% target in due course. ECB President Christine Lagarde had hinted during her press conference at the time that discussions were not limited to maintaining the current rate, but also included the possibility of an increase.
Supply Shock Uncertainty and Second-Round Effects
The minutes revealed heightened downside risks to the economic growth outlook compared to the previous March meeting, with members acknowledging that the spillover and “second-round effects” of the energy shock were “inevitable.” They noted that the transmission of oil shocks to energy-sensitive components of the Consumer Price Index (CPI) takes time, ranging from one month for fuel to more than 15 months for other commodities—such as meat products—before the shock reaches its peak.
The minutes stated that the current situation represents a “classic negative supply shock,” fundamentally different from the scenario seen in 2022, when strong demand forces resulting from the post-pandemic economic reopening were the primary driver of inflation, alongside the supply shock.
Despite a significant rise in short-term inflation expectations, the bank believes the long-term outlook remains stable around its 2% target.
A “Symbolic” Move Expected in June
Financial markets now view a 25-basis-point interest rate hike in June as a near certainty, driven by previous hawkish statements from Executive Board member Isabel Schnabel. Analysts see this anticipated increase as a “symbolic and precautionary” step to reaffirm the bank’s commitment, given that inflationary damage has already affected the Eurozone economy, even if the war in the Middle East were to end immediately.
Regarding the monetary policy path after the June meeting, analyses indicate that the likelihood of entering a severe “inflationary spiral” remains low as long as government fiscal stimulus packages remain restrained and limited.
Accordingly, experts predict that a single precautionary hike in June will suffice to stabilize inflation expectations, ruling out the possibility of the European Central Bank resorting to aggressive and sustained tightening to combat an external supply shock, as this could lead to a serious deepening of the economic recession, especially given that the bond market is already fulfilling part of the monetary tightening role by automatically raising yields.