ECB raises interest rates by 50 basis points and signals further hikes

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By Scott Kanowsky 

Investing.com -- The European Central Bank raised interest rates by 50 basis points as expected on Thursday, and signaled plans to raise them further.

The ECB's deposit rate now stands at 2%, while the borrowing cost for its main refinancing operations and marginal lending facility moved up to 2.50% and 2.75%, respectively.

The Frankfurt-based ECB becomes the latest central bank to follow in the footsteps of the Federal Reserve and pull back somewhat on recently aggressive interest rate increases aimed at bringing down soaring inflation. However, in a statement, the ECB said price growth remains "far too high" and is predicted to stay above its 2% target for "too long."

Policymakers revised up their inflation projections despite price growth easing to 10.0% in November thanks to lower energy costs. The ECB now estimates that average inflation in the Eurozone will reach 8.4% in 2022 before falling to 6.3% in 2023. The figure will then further decline to 3.4% in 2024 and 2.3% in 2025.

"Food price inflation and underlying price pressures across the economy have strengthened and will persist for some time," the ECB added.

With this trend in mind, the central bank judged that rates will still have to rise "significantly" at a steady pace to reach levels that are "sufficiently restrictive to ensure a timely return" to its medium-term inflation goal.

Speaking to reporters after the rate decision, ECB president Christine Lagarde said that upcoming increases are now seen "at a 50 basis point pace for a period of time."

"We have made progress over the course of the last few months, but we have more ground to cover. We have longer to go. And we are in for a long game," Lagarde said.

The ECB warned that the currency area may see economic activity contract in both the fourth quarter of this year and the first three months of 2023, due to tighter financing conditions, the energy crisis, high uncertainty, and a weakening outlook for the global economy.

The euro edged lower against the U.S. dollar following the announcement, while Eurozone bond yields rose and the pan-European STOXX 600 declined.

"Ahead of today’s meeting, the question was whether the ECB would opt for a larger-sized rate hike with a dovish message or for a smaller-sized rate hike with a hawkish message. The answer is clear: a smaller hike with a very hawkish message," analysts at ING said.

Meanwhile, the ECB flagged that it will move to draw down its €5 trillion bond holdings by €15B on average per month through a decrease in the amount of repurchases of maturing debt beginning next March.

"The Governing Council will regularly reassess the pace of the [...] portfolio reduction to ensure it remains consistent with the overall monetary policy strategy and stance, to preserve market functioning, and to maintain firm control over short-term money market conditions," the ECB said.