While the US Federal Reserve (Fed) went into pause mode yesterday by suspending the increase in the price of money after 15 months, the European Central Bank (ECB) raised interest rates again, by a quarter of a point , up to 4%.
In the statement, the ECB repeated the line it had already made that inflation is bound to stay “too high for too long.” But, to justify the umpteenth rise, the text makes a specific reference to the core inflation rate.
“Experts have revised their excluding food and energy inflation forecasts higher, especially for this year and next, due to past bullish surprises and the implications of a strong labor market for the speed of disinflation. Now They expect it to reach 5.1% in 2023, before falling to 3% in 2024 and 2.3% in 2025.”
In short, this component is still too high. And there is another element that invites reflection: the ECB’s projections on the decline that (general) inflation will experience suggest that it will reach 2.2% in 2025. The objective should be a rate close to 2%. With this time horizon of two years ahead of higher-than-desired price growth, the decision taken today Thursday by the ECB is better understood, which clearly does not want surprises.
The institution chaired by Christine Lagarde did not tremble when it came to continuing with a restrictive monetary policy. The fact that, from a technical point of view, the euro area entered a technical recession in the first quarter of this year (two consecutive quarters of negative GDP growth of one tenth of a point) was of little use. Anything goes, with the goal of beating inflation.
Raphaël Gallardo, chief economist at Carmignac, when asked by this newspaper, introduces the following nuance. “I think the hawks at the European Central Bank are interested now not so much in interest rates going higher, but in staying high for a long time before falling too soon.”
In their analysis that they presented this morning, they explain, as a paradox, that a recession in Western economies is inevitable and almost desirable. The thesis is that inflation, which initially skyrocketed due to the crisis in the supply of raw materials, the post-pandemic congestion of maritime trade and the increase in energy prices due to the crisis with Russia, is now kept alive thanks to two components.
One is the rise in wages, fueled by a mismatch in the labor market, in which there is more job supply than demand and with an unemployment rate that is still very low. The other is high business margins, reflecting the rise in prices of goods and services, supported by robust cash flows on their balance sheets. Consequently, the only way to slow down price growth is to cause an economic contraction.
“Economies are showing greater resilience than expected,” they argue in Carmignac. In fact, demand continues to be driven also by excess savings accumulated during the covid lockdown. And this stresses prices.
In other words, what appears to be good news -the strength of the real economy- is bad news when it comes to curbing price growth. Hence the latest decision by the European Central Bank, which has chosen to raise rates. The ECB has also been in the economic cycle for about four months with respect to the path set by the Fed and the pause mode, although it is closer, has not yet arrived. In fact, the communiqué does not make any reference to what may happen in the next meetings, either in one direction or in the other.
