San Francisco Frontiers - ECB poised for big rate hike in face of record inflation

Steep increases in the price of energy in the wake of the Russian invasion of Ukraine have heaped pressure on households and sent the pace of consumer price rises to new highs.

Eurozone inflation hit 9.1 percent in August, a record in the history of the single currency and well above the two-percent rate targeted by the ECB.

The "only question" for the ECB's meeting was "whether it will be a 50 or 75 basis point hike," said Carsten Brzeski, head of macro at the ING bank.

Speaking at the annual Jackson Hole central banking symposium at the end of August, ECB board member Isabel Schnabel said the ECB needed to show "determination" to tame price rises.

Under this approach, the central bank would respond "more forcefully to the current bout of inflation, even at the risk of lower growth and higher unemployment", she said.

- 'Only question' -

The ECB's 25-member governing council surprised with a 50-basis-point hike at its last meeting in July, bringing an end to eight years of negative interest rates in one fell swoop.

In her speech in the United States, Schnabel stressed the need for the people to "trust" that the ECB will restore their purchasing power.

The Frankfurt-based institution is already playing catch up with other central banks in the US and Britain that started raising rates harder and faster in response to inflation.

So-called forward guidance issued by the ECB, which limited its scope for action, has been ditched. Policymakers would now take their decisions "meeting-by-meeting", the ECB President Christine Lagarde announced in July.

With that, the door has been opened for the ECB to follow in the footsteps of the US Federal Reserve and raise rates by a 75 basis points.

Following August's red-hot inflation numbers, the influential head of the German central bank, Joachim Nagel, said the ECB needed a "strong rise in interest rates in September".

- 'Steady pace' -

"Further interest rate steps are to be expected in the following months," the Bundesbank president predicted.

But the ECB's chief economist, Philip Lane, has counselled colleagues to follow a "steady pace" of interest rate rises.

Hiking at a rate that was "neither too slow nor too fast" was important due to the "high uncertainty" around the economy and the future path of inflation.

Alongside its policy decisions, the ECB will also share an updated set of economic forecasts for the eurozone.

In its last estimates, published in June, the ECB said it expected inflation to sit at 6.8 percent in 2022 before falling to 3.5 percent next year, while growth would slow from 2.8 percent this year to 2.1 in 2023.

But a more severe energy shock as Russia reduces gas deliveries to Europe could push the eurozone into a "deeper winter recession" and hold growth to zero percent in 2023, said Frederik Ducrozet, head of macroeconomic research at Pictet.

At the same time, the soaring cost of energy would drive inflation close to double digits by the end of the year, he predicted.

The ECB had "no choice but to commit to faster monetary tightening as long as inflation keeps rising" even as a recession loomed, said Ducrozet.

X.Roberts--SFF