ECB Holds Rate Steady Amid Recession Worries

(RTTNews) - The European Central Bank left its key interest rates unchanged on Thursday, as expected, after raising them in the past 10 sessions, but adopted a cautious stance to suggest that the rates could stay "higher for longer" despite the easing inflationary pressures as the signs of a recession in the euro area economy increases. The Governing Council, led by ECB President Christine Lagarde, left the main refinancing rate, or refi, at 4.50 percent at the rate-setting session in Athens, Greece.

The deposit facility rate was held at a record high 4.00 percent and the lending rate was kept at 4.75 percent.

"Inflation is still expected to stay too high for too long, and domestic price pressures remain strong," the ECB said. "Based on our current assessment, we consider that rates are at levels that, maintained for a sufficiently long duration, will make a substantial contribution to the timely return of inflation to our target," the bank reiterated. "Our future decisions will ensure that the key ECB interest rates will be set at sufficiently restrictive levels for as long as necessary to ensure such a timely return," the ECB added.

The central bank also affirmed that policymakers will continue to follow a data-dependent approach to determining the appropriate level and duration of restriction.

Uncertain Outlook The latest pause comes after the ECB raised rates by a cumulative 400 basis points with hikes in every policy session of the current tightening cycle that began in July last year. The central bank adopted an aggressive tightening stance to rein in the runaway inflation in the Eurozone that was triggered mainly by an energy crisis in the bloc in the aftermath of the war in Ukraine.

The ECB also acknowledged that the past interest rate hikes are being effectively transmitted into the economy, and this is dampening demand and also helping in lowering inflation.

Though there is modest improvement in the inflation picture, fresh concerns have emerged over the Eurozone economic outlook. Recent indicators have been anything but upbeat, especially those for Germany, the biggest economy in the bloc.

GDP estimates due next week are expected to reveal either modest growth or a contraction in the euro area economy during the third quarter.

The ongoing conflict between Israel and Hamas in the Middle East pose a serious geopolitical risk to the inflation outlook as oil prices fluctuate. "The economy is likely to remain weak for the remainder of this year," Lagarde said in her introductory statement to the post-decision press conference.

She also remarked that the latest pause should not be interpreted as an end to rate hikes. ING economist Carsten Brzeski said the latest ECB policy session further established the concept of a "dovish pause".

"The ECB has never been more worried about the growth outlook and relatively relaxed about potential new inflation waves, stemming from oil prices," Brzeski said.

"As a result, unless the eurozone economy miraculously rebounds in the coming weeks, we expect today's dovish pause to eventually be seen as the end of the hiking cycle."

Quantitative Tightening Specualtion was rife that the ECB policymakers would now turn attention to quantitative tools as the scope for raising rates further is slim in an economy which is thought to be in recession. It was widely expected that the bank would start exploring ways to shrink its balance sheet faster and mop up some liquidity by raising the minimum reserve requirements for commercial banks.

However, ECB chief Lagarde suggested during the press conference that there was no discussion over the reinvestments of proceeds from the EUR 1.7 trillion bonds bought under the Pandemic Emergency Purchase Programme, or PEPP or on the MRR for banks. "She apparently did this to support Italian government bonds, which are suffering from the weakness in global bond markets as well as Italy's high budget deficits," Commerzbank economist Jorg Kramer said. The economist said Commerzbank does not share the markets' view that the ECB will lower its rates significantly again as early as next year. "Rate cuts would be risky anyway because the deposit rate of 4.0 percent is not very high in view of the underlying inflation problem," Kramer added.