Economists call ECB rate hike inevitable ‘insurance’ move

• Rate increase comes at ‘inopportune time for Germany,’ says ifo President Clemens Fuest
• Harm of inaction to ECB’s credibility would have been greater, says ING economist Carsten Brzeski

Economists described the European Central Bank’s (ECB) decision Thursday to raise its key interest rates by 25 basis points as an inevitable “insurance” move against inflationary pressures.

The ECB Governing Council raised the deposit facility rate, its key monetary policy benchmark, from 2.25% to 2.50%.

The rates on the main refinancing operations and marginal lending facility were also increased to 2.65% and 2.90%, respectively. The new rates will take effect Sept. 16.

Economists said the move was necessary for the eurozone, but warned of the potential effect on Germany’s already weak economy.

Rate hike comes at inopportune time for Germany

Clemens Fuest, president of the Munich-based ifo Institute, said the interest rate hike was unavoidable, noting that eurozone inflation is above 3%.

“In Germany, inflation is somewhat lower. Given an economy that, despite some bright spots, remains quite weak, the interest rate hike comes at an inopportune time for Germany,” said Fuest. “However, the ECB has a mandate to conduct monetary policy for the entire eurozone.”

Fuest said the ECB had to act as core inflation also remained significantly above its 2% target.

Move aimed at staying ahead of curve

Carsten Brzeski, ING’s global head of macro research and chief economist for Germany, described the increase in the deposit rate to 2.50% as an “insurance” rate hike.

He said the move demonstrated that the ECB remained highly vigilant and sought to stay ahead of the curve by preventing higher energy prices from spreading through the broader economy.

The recent escalation in the Middle East and the surge in oil prices had strengthened the case for an increase, he said, although indicators, including core and services inflation, continued to show limited second-round effects from higher energy costs.

Brzeski noted that lifting the policy rate to the upper end of what the ECB considers its neutral range did not carry a significant risk of making monetary policy excessively restrictive.

“The harm of doing nothing, at least for the ECB’s credibility, is clearly larger,” he said.

Brzeski, however, warned that additional rate increases would be more complicated, stressing that there was a significant difference between a resilient economy and an overheating economy requiring restrictive monetary policy.

With public finances under pressure and bond yields rising rapidly, the ECB would be unlikely to intensify the strain, he said.