The headquarters of the European Central Bank in Frankfurt, February 2, 2023 (AFP / Daniel ROLAND)
The turbulence in the banking sector is testing the determination of the European Central Bank, which must decide on Thursday on a new rate hike of half a point to fight inflation, but could be encouraged to be cautious.
The biggest bank failure since the 2008 financial crisis, the rout of Silicon Valley Bank (SVB) creates an additional challenge for the ECB’s rate management, even if the authorities and leaders on both sides of the Atlantic stormed with statements minimizing the risk of contagion.
Concern rose a notch on Wednesday with the unprecedented fall in the action of Credit Suisse, the Swiss banking giant, which dragged European stocks in its wake.
This plunge began after statements by the president of the Saudi National Bank, the largest shareholder of Credit Suisse, casting doubt on his support for this establishment considered vulnerable.
These turbulences complicate the decision of the guardians of the euro who want to fight against persistent inflation without further destabilizing the financial markets.
– “Not painless” –
Until recently, a 50 basis point hike, at Thursday’s monetary policy meeting, was almost done – since the ECB itself announced it last month. But the scenario of a quarter-point increase is no longer ruled out by the markets.
The President of the European Central Bank, Christine Lagarde, on February 15, 2023 at the European Parliament in Strasbourg (AFP / Frederick FLORIN)
The situation “should not dissuade the ECB from raising interest rates by an additional 50 basis points, due to stubbornly high inflation”, assures however, like many experts, Agnese Ortolani, analyst at Economist Intelligence Unit (EIU).
This decision would bring the rate remunerating undistributed bank cash in credit to 3.0%, the highest since October 2008.
Faced with soaring prices in the wake of the Russian offensive in Ukraine, the ECB in July began an unprecedented cycle of rate hikes, halting nearly a decade of cheap money.
This forced monetary tightening, carried out by all the major central banks to increase the cost of credit and slow down the overheating of prices, has also contributed to weakening the commercial banks.
Enough to animate the debate Thursday among the central bankers of the euro zone on the pace to follow in the months to come.
The financial turmoil proves that “the rise in rates is not as painless as it seems”, giving credit to the “doves” preaching caution, underlines Gilles Moec, chief economist at Axa.
The “hawks”, who want to stay the course, will argue that there is no risk of contagion to the economy and therefore “no impact on the calibration of monetary policy”, according to him.
Especially since the battle against inflation is far from over and is still putting the ECB under pressure.
Inflation in the euro zone fell in February for the fourth month in a row, to 8.5% year on year, but the price curve, excluding energy and food, climbed to a record level of 5.6%.
The new inflation and growth forecasts published by the institution on Thursday will help it reassess the situation.
– Rate peak at 3.5%? –
It will be up to the President of the ECB, Christine Lagarde, to weigh every word of her communication on the future evolution of rates.
“The extreme uncertainty that reigns today in the American banking sector and the reaction of the markets should encourage the institution to be more cautious”, advances Frederik Ducrozet, chief economist at Pictet Wealth Management.
The level of the deposit rate could reach a peak between 3.5 and 4.% this summer, according to observers, with more probability now to land at the bottom of the range.
“The risk to financial stability” forces the markets to “reassess the downward trajectory of rates”, according to ING bank.
The ECB can also fight against inflation by reducing the stock of public and private debt and giant loans to banks accumulated in its balance sheet.
Described as a “monetary vacuum cleaner” by the economist Ludovic Subran, an expert at Allianz, this tool is particularly sensitive at a time when European banks must not lack liquidity and when the risk of financial accidents looms.