The European Central Bank (ECB) has announced that interest rates will remain high for as long as necessary to combat inflation, according to ECB President Christine Lagarde. Lagarde acknowledged the difficulties faced by homeowners who have seen their mortgage payments increase but emphasized the need to address inflationary pressures.
Lagarde stated that the 20 countries using the euro currency are experiencing strong upward pressure on prices. Factors such as increased spending on holidays and travel, as well as rising wages, have slowed the decline in price levels despite a sluggish economy. Annual inflation in the eurozone only slightly eased from 5.2% in July to 5.3% in August.
The ECB is committed to ensuring that inflation returns to its medium-term target of 2% in a timely manner. Although inflation is declining, it is still expected to remain too high for an extended period. In response, the ECB raised its benchmark deposit rate to an all-time high of 4% this month, following a series of increases since July 2022.
Lagarde acknowledged the impact of high inflation on households, particularly those with variable interest rate mortgages. She highlighted the burden faced by lower-income households, which spend a larger proportion of their income on essentials like energy. Lagarde emphasized the importance of quickly returning inflation to 2% to alleviate this pressure.
Analysts speculate that the ECB may pause its rate hikes due to signs of weakening in the European economy. Other central banks, such as the Bank of England and the U.S. Federal Reserve, refrained from increasing rates last week as they near the end of their rapid hiking campaigns.
The global economy’s rebound from the COVID-19 pandemic, coupled with supply chain disruptions and the conflict between Russia and Ukraine, has led to a surge in inflation. Lagarde believes that the current interest rates are sufficiently high to make a substantial contribution to reducing inflation if maintained over a prolonged period. The ECB projects inflation to decline to an average of 2.1% in 2025 after reaching a record-high of 10.6% in October.
Higher interest rates are a key tool for central banks to control inflation. By influencing the cost of credit, they make borrowing more expensive for activities like home purchases and business development. This reduces demand for goods and helps curb inflation but also carries the risk of restraining economic growth.
The ECB’s higher rates have triggered a significant deceleration in real estate transactions and construction, both of which are highly sensitive to credit costs. Additionally, the prolonged rally in eurozone home prices has come to an end.
Lagarde noted that the economy has broadly stagnated in the first half of this year, with incoming data suggesting further weakness in the July-to-September quarter. However, the ECB’s forecasts predict an economic pickup as inflation declines, leading to increased spending power. Lagarde reassured the public that a recession is not part of the ECB’s baseline scenario.
In summary, the ECB plans to maintain high interest rates to combat inflation despite acknowledging the challenges faced by homeowners. Lagarde emphasized the need to address inflationary pressures and highlighted the impact on lower-income households. While analysts speculate that the ECB may pause its rate hikes due to a weakening European economy, the bank remains committed to returning inflation to its target of 2%. The ECB’s higher rates have led to a slowdown in real estate and construction activities, but the bank expects an economic pickup as inflation declines.
More detail via Quartz here… ( Image via Quartz )