A division in the European Central Bank leads to a tightening of interest rates

A division in the European Central Bank leads to a tightening of interest rates

The peace in the ECB's Governing Council is in question. Months have passed since the French head of the organization Christine LagardeHe struggles to maintain peace between the two historical factions in the highest decision-making body of European monetary policy: the hawks – supporters of more restrictive positions, who generally come from the countries of the North and Central Continent – and the dovish hawks – the South, which requires decisions that make credit more flexible to facilitate consumption. And Encouraging economic activity-. In recent days, in the face of the expected decline in interest rates after a year and their rise, the shock has become more severe: while the Governor of the Central Bank of Portugal Mario Centeno He doubted whether it was necessary to wait for a reduction in the Austrian banker's historic credit rate Robert Holzman The door was opened to maintain the current rate at 4.5% until the end of 2024. The gap is more than clear.

This means that Centeno has been noticeably critical of the ECB's stance since its first rate hike. Last spring, while inflation had not yet stabilized in its downward trend and interest rates continued to rise in Europe, the Portuguese banker had already indicated during a meeting of the Economic Circle the possibility of… Overtaking – Too sudden monetary tightening, which could end up hurting the overall economy. In a fragmented market like Europe, according to its consulting sources World economyIt is difficult to determine the scope of the effects that raising interest rates could have on economic activity as a whole. “There are countries where it can be there OvertakingOf course, but also countries where there is an adverse risk,” analyzes the professor of economics and business at the University of Auckland. Anthony brother in law. “It is a problem with monetary policy in the eurozone; “It's varied, but the genres suit everyone.”

Therefore the economic situation in Central Europe is not the same as in the southern countries. On the one hand, both Spain and Catalonia remain above eurozone inflation data – while the single currency countries' average finished 2023 below 3%, already close to the ECB's target of two percentage points, which is the Catalan price figure. It remains at 3.2%, and the health of the economy as a whole is also different, although in the opposite direction. “Germany has serious growth problems,” recalls the UPF-BSM professor. Xavier Bron. The weak performance of the European locomotive, which reached a technical recession during 2023 and enters 2024 in stagnation, may indicate that it needs lower interest rates to reactivate the economy. Now, as the sources consulted indicate, the connection in the German market is not entirely clear: it is not only the cooling of credit that is responsible for its crisis; This comes mainly from the loss of Russian gas, which has hampered the ability of industry in the Federal Republic to compete favorably with the rest of the continent. Germany has suffered greatly because of gas and oil; “Energy prices have more to do with their poor situation than interest rates,” comments the Secretary General of the College of Economists of Catalonia Angel Hermosilla.

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Therefore, despite the need to restore growth, the central countries are betting on keeping interest rates at high levels. Primarily, Konyat is remembered, for cultural devolution – the reaction to periods of hyperinflation in Germany in the interwar period –; Second, Brun says, because of the intense focus on debt control in Europe. The UPF professor says that hawks “are looking to reduce the level of debt in the economy; if the debt has to be refinanced at high rates, actors will choose to reduce it so as not to pay more interest.” In other words, tight monetary policy favors debt control. , because obligations – public and private – are more expensive. On the other hand, southern countries, which are more burdened with debt, “want to lower interest rates to avoid problems with the tax burden of debt.” Markets such as the Spanish markets, or the Portuguese ones themselves, “emerged more affected” by a period of high interest rates, laments Hermosilla. And so both sides of the contradiction have reasons to defend themselves. “The arguments of both are valid; But not everything works for all countries,” says Konyat.

Austrian Central Bank Governor Robert Holzmann/EP

who will win?

The experts consulted seem to be in the middle of the two positions: neither massive and immediate declines, nor a long year of high interest rates. In line with what the main economic institutions expect, everything points to two more meetings of fixed rates that may culminate in the first decline in credit rates at the beginning of the second semester, already in the summer. It is worth noting, Konyat recalls, that “traditionally the ECB has always been dominated by hawks”, especially the Germans. The regulator's ruling thus has a reputation as being strict rather than prudent. Despite the fact that the inflationary spiral is far from its peak in 2022, when it exceeded 11% in the most extreme cases, the body headed by Lagarde is expected to remain waiting for between five and six months. Even when the price cycle is consolidated as a down cycle, “the ECB is waiting for confirmation, it is not going down as soon as possible,” Bruhn warns.

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The sources consulted confirmed that this wisdom is more than justified. Financial markets are hungry for cheap credit, and an early cut in interest rates could lead to an uncontrolled rise in activity leading to a new inflationary cycle. If the European Central Bank's decisions open the door to further price escalation, control measures must be more stringent than those imposed since the fall of 2022, and more harmful in the long term to the health of the economy. Therefore, Frankfurt expects the CPI chart to show beyond doubt that prices in the medium term are under control and at levels below 2%. Moreover, the eurozone's health is not yet so bad that it requires emergency measures. “There will be a drop in interest rates when unemployment, which is the anchor of the economy, gets worse,” Brun says.

Frankfurt looks to Washington and ignores the bank

Thus, expectations imply a decline since June of about one percentage point – from the current 4.5% to just over 3.5% – until the end of the school year. There are even those who expect more intense cuts. Brun himself expects another 25 basis points: “If the market expects 1%, we will probably see a 1.25% decline.” However, the claims of the big bank, which had already thought about cutting interest rates for the first quarter at the end of 2023, before the spring, have not ended yet. In this sense, the ECB acts as a freezer for the hot expectations of the bank requesting credit. “Financial markets overreact to everything: they immediately go into a state of euphoria,” Konyat criticizes. An uncontrolled euphoria would serve as a fuse for a new inflationary process.

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The bank's other mirror, and this mirror in a positive light, will be Washington. A new meeting is expected to be held on the 31st Federal Reserve. The monetary regulator in the United States began tightening credit much earlier than Europe to reduce the inflationary spiral, and although its levels are slightly higher than in single currency countries, the market remains more stable. As Hermosilla recalls, the Fed's decisions set the pace for Europe, not just because of the performance relationship between the two markets, but because of the valuation of currencies – the euro cannot lose value against the dollar, or not at a very high rate. -. Therefore, Washington will announce next Thursday the line that Frankfurt will follow, amid uncertainty, during the year 2024.

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