"It's not a pause." "The journey continues." The president of the European Central Bank (ECB), Christine Lagarde, wanted to underline yesterday that the moderation in the rate of increases in the price of money announced yesterday is neither a surrender nor a change in trend: that the ECB will continue to remain on alert to monitor that inflation falls to the desired target of 2%.
After three consecutive hikes of 0.50 points, the European Central Bank raised rates only a quarter of a point yesterday, to 3.75%, the highest level in fifteen years, since the Lehman Brothers era. Therefore, the rate of increase in interest rates, a movement that began in July 2022, is slowing down. Although we already have seven increases in a row. “You have to look with perspective: even after yesterday, we are facing the biggest bullish cycle in the history of the euro. It cannot be said that Lagarde has fallen short”, comments Víctor Alvargonzález, founder of the advisory firm Nextep Finance.
Why has President Lagarde taken her foot off the brake pedal? If we wanted to continue with the metaphor, because the highest peak of the hill begins to be glimpsed, when the descent will finally begin. In the words of Lagarde, there is a fact that made her be more prudent instead of launching a steeper rise. And it's the slowdown in credit.
The figures suggest that many companies now think twice before taking on debt, given the interest they have to pay. And this aspect is the first sign that the restrictive turn of monetary policy is working and that perhaps there is no need to go too far, if you do not want to stifle the European economy and lead it into a recession. Lagarde wants to push, but without drowning.
Indeed, eurozone GDP barely grew last quarter (0.1%) and loan figures showed the biggest drop in credit demand in over a decade, suggesting that past rate hikes They are starting to make a dent in the economy.
The ECB president's insistence on repeating that "there is more way to go" (she said it more than five times) is due to the fact that core inflation is having a hard time coming down. And because? There are no bottlenecks anymore, raw materials have dropped... The problem is, in her opinion, wages and corporate profit margins. These two elements make it difficult for inflation to come down.
"Wage pressures have intensified further as employees, in a context of a robust labor market, regain some of the purchasing power they have lost as a result of high inflation," Lagarde added. Million dollar question: when will the cycle of increases end then? Alvargonzález believes that we are not very far from that moment, due to a series of factors. First, the strength of the euro, which by definition is deflationary. Second, because the drop in oil, the price of energy and the cost of transport will sooner or later end up being transferred from headline inflation (now at 7%) to core inflation (at a historic 5.7% in March).
In the subsequent press conference, Lagarde recalled that "the strength of the transmission to the real economy is still uncertain." Translation: in the event that there are indications that point to a possible contraction in the GDP of the eurozone, that day will have to be said enough. And that day will not be tomorrow: we must not forget that the unemployment rate in the euro area is at record lows (6.5% in March).
Lagarde stressed that no member of the Governing Council supports a pause and that although some members wanted a 0.50 point hike, all are in favor of raising rates now and at future meetings.
In fact, the French lawyer and former minister intentionally accentuated the “s” at the end of the word “decisions” when responding to a question during question-and-answer time: “Our future decisions will guarantee that official interest rates are at levels enough to achieve a timely return of inflation to our 2 percent medium-term target, and will remain at those levels for as long as necessary."
“In this case, Lagarde can raise rates as if there were no tomorrow because the stock market (and the markets in general) is holding up reasonably well, since it is attracting investors from the dollar area and because the bank contagion in the United States is not going away. is spreading in European banking. European regulations are different, as is the banking business model. Hence his happy face”, adds Víctor Alvargonzález.
"The ECB is taking advantage of the solidity of European banks to continue tightening its monetary policy," Natixis IM analysts agree. “But more evidence is needed that underlying price pressure is on a downward path before wage, margin and price dynamics become unruly.”
