The market is in no doubt that the European Central Bank (ECB) will raise interest rates again today by 75 basis points (0.75%) to 2% at its monetary policy meeting in Frankfurt. The persistence and high level of inflation in the eurozone, which stood at 9.9% in September, and the signs that prices will remain high for a good season, leave no room for any decision other than that to Christine Lagarde and her team of governors.
And investors take positions. Yesterday, the euro was exchanged for more than a dollar in the foreign exchange market for the first time in the last five weeks for two possible reasons. In the first place, due to the growing probability that the Federal Reserve will slow down a bit after the first signs of cooling in the economy, still not widespread, and which have starred in the round of corporate earnings presentations on Wall Street. In this line, the Bank of Canada, which usually acts with enough mimicry with the Fed, surprised the market yesterday with a rise of only 50 points in interest rates, when it was expected to do so with 75 points, up to 3, 75%.
But also working in the euro’s favor is the fact that traders are eyeing the ECB’s own strong resolve to go ahead with monetary policy tightening, despite the feared recession approaching. The euro, which was exchanged for 0.9535 on September 28, was around 1.0081 dollars per unit yesterday.
More signs: the bond market. The listed debt also confirmed yesterday in advance what is likely to happen today in the Eurotower that irrigates the river Main. Germany’s two-year bond yield, which is sensitive to interest rate expectations, rose yesterday to yield 2.02%. This bond exceeded 2% for the first time in 14 years on October 18 and, although it fell back somewhat at the close, it did not move away from that level.
“A 75 basis point hike tomorrow is not really up for debate, but what will be up for debate is how much the ECB will raise next year,” said Sebastian Grupp, an analyst at DZ Bank. Analysts and investment banks, always on the lookout for events, are confident that after three consecutive rises of 50, 75 and another 75 points -today’s- since July, in December there will be a slowdown to 50 points before the ECB raises rates again by 25 more points in January. That would put rates in the middle of the first quarter of 2023 on the verge of 3%.
In favor of this hypothesis is the fact that wages are not out of control in the eurozone and that, apparently, there is a certain relaxation in the energy crisis, especially with regard to gas, with the warehouses full and a fairly smooth that reduces tension on the demand side.
Regardless of the rates, experts expect the ECB to begin the debate on the start of reducing its balance sheet, currently at 4.9 trillion euros, with regard to the portfolio of sovereign and corporate bonds. “It is expected that you can start reducing it from the second or third quarter of 2023,” said Juan José del Valle, an analyst at Activotrade, yesterday in a note to his clients. Today, the issue is already on the table, although the ECB will almost certainly wait until December, with more data and forecasts from its study service, to announce its new roadmap in this field.
On the other hand, the central bank will announce today, predictably, changes in the remuneration of excess liquidity to banks in long-term financing operations –TLTRO, in the jargon– to add this element to the restrictive policy that is intended take with the rate hike.
There is no liquidity problem in the eurozone – on the contrary – although the spreads applied to customers are beginning to rise because credit risk premiums are skyrocketing. If the economy slows down or the arrival of a recession is confirmed, even if it is technical, credit insurance against possible defaults and the banks’ own risk departments raise the criteria, and the prices, to lend. What the ECB does with the limitation of liquidity is to give coherence to the rate hike. The long process of normalizing monetary policy –initiated many times– is picking up speed. Now it is unstoppable.
