MNI ECB WATCH: Slowing Core Prices, Lending, Set Up 25BP Hike

The European Central Bank is expected to slow the pace of key interest rate rises to 25bp on Thursday, amid evidence that base effects and previous policy decisions are beginning to turn the tide on inflation.

While some Governing Council members argued as recently as last week that a further 50bp hike should still be on the table, Tuesday’s news that core inflation eased to 5.7% in April, coupled with an increase of just 0.1 percentage point in the headline rate and evidence of a “substantial” tightening in financial conditions, means a smaller increase in the deposit rate to 3.25% is now more likely. (See MNI INTERVIEW: Peak Rate 3.5-4% Good Starting Point - Wunsch).

Equally, the fact that both inflation measures remain significantly above the 2% target means more rate rises can be expected, amid concern that upward price pressures - particularly services inflation - have not yet peaked. (See MNI SOURCES: ECB To Hold Rates At Peak Into 2024).

FINANCIAL STABILITY

With financial stability fears receding following the collapse of Silicon Valley Bank and the hurried takeover of Credit Suisse, some hawkish central bank bosses are likely to insist that president Christine Lagarde signal publicly her willingness to consider at least another 25bp hike, and to push back against calls for a cut before the end of this year. The ECB has committed to a meeting-by-meeting, data-dependent approach to its rate decisions.

Following March's early repayment of EUR72 billion from TLTRO III, and with around EUR490 billion maturing in June, officials have also told MNI that the Governing Council could discuss putting in place some form of bridging loan operations, although any decision could be deferred until next month. (See MNI SOURCES: ECB Set For TLTRO Discussions Ahead June Maturity).

Similarly, with the decline in reinvestments from the ECB’s APP portfolio - currently set at an average pace of EUR 15 billion per month - up for review at the end of June, the ECB may decide to serve notice of its intention to shrink its balance sheet more quickly from Q3.

However, any pre-emptive signals on the direction of quantitative tightening will be conditional, with central bankers relaxed about the timing of an announcement and keen to ensure that the bond run-off functions mechanically without needing regular interventions from policymakers.