ECB increases key interest rate by 0.75 percentage points – Politics

The European Central Bank has raised the key interest rate to 1.25 percent and announced further interest rate hikes. “Recently, the prices for energy and food have risen extremely, at the same time the inflation into many other sectors of the economy,” said ECB President Christine Lagarde on Thursday. “That’s why we had to act decisively.”

With its interest rate hike of 0.75 percentage points, the central bank resolved the largest increase since the introduction of euro cash in 2002. “Inflation is terrible, especially for the less privileged people,” said Lagarde. Therefore, with this decision, one wants to send a strong signal that the central bank is fighting inflation. “Certainly she can ECB do not lower energy prices. Others have to do that,” Lagarde continued.

With the drastic increase in interest rates, the monetary watchdogs are underscoring their determination to make borrowing more expensive for the economy – even at the risk of accelerating the economic downturn. The prospects are already bleak. The Kiel Institute for the World Economy (IfW) predicted a recession in its autumn forecast for Germany on Thursday. The researchers expect gross domestic product to shrink by 0.7 percent in 2023. “With the high import prices for energy, an economic avalanche is rolling towards Germany,” said IfW Vice President Stefan Kooths.

Some companies are already reducing their production due to high energy prices and a lack of components. Some, like the shoe manufacturer Görtz and the paper manufacturer Hakle, have filed for bankruptcy. Politicians such as Spanish Prime Minister Pedro Sánchez have therefore called on the ECB to structure interest rate hikes in a way that is compatible with the economy.

At 9.1 percent, the inflation rate in the euro zone in August was the highest it has ever been in its history. For 2022 as a whole, the central bank expects 8.1 percent. The euro watchdogs are under pressure because they have underestimated the inflation risks for too long. Other central banks such as the American Federal Reserve and the Bank of England (see grafic) initiated their rate hikes much earlier. Only in July did the Governing Council increase the policy rate for the first time since 2011 – by 0.5 percent – and thus ended the zero interest rate policy. “We made mistakes in our forecasts, but so do all the other central banks and most economists,” Lagarde said on Thursday.

The institution is threatened with a loss of confidence because it has now missed its self-imposed inflation target of two percent by four and a half times. At the same time, inflation is eating into almost all sectors of the economy. It is therefore considered certain that inflation will also be well above two percent in 2023. The ECB anticipates inflation of 5.5 percent for the next year.

The more people have to doubt that inflation will return to normal levels in the medium term, the more the price increases could become entrenched: companies immediately demand higher prices for their products on the basis of these expectations – and workers higher wages. “Now it is important that the ECB does in fact continue to raise its key interest rates sharply in the coming months, despite the increasing risk of recession,” says Jörg Krämer, chief economist at Commerzbank. Otherwise, according to the economist, the significantly increased long-term inflation expectations of citizens threaten to become a self-fulfilling prophecy.

The social consequences of the rising prices are serious, because households with low incomes in particular have to fear for their existence in view of the massive increase in the cost of living. Inflation also acts as a wealth tax on savings, large and small, that lose real value every day, while many rich and super-rich people invest their wealth in lucrative stocks and real estate.

The interest rate increase is also intended to indirectly stabilize the euro exchange rate. Europe’s common currency has lost around ten percent of its value on the foreign exchange markets since April. The euro is now trading at par to the dollar. The weakness of the euro is increasing the inflationary pressure in Europe: because commodities such as oil are priced in dollars, import costs are rising accordingly.

The housing market is also affected: “As a result, interest rates for real estate loans will probably continue to rise and the pressure on the residential real estate market will increase again,” said Oliver Wittke, general manager of the Central Real Estate Committee, on Thursday. The rise in key interest rates will also make things “even more difficult” for the commercial real estate market.

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