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European Central Bank on the Verge of Hawkish Turn as Inflation Hits 8.6%

The European Central Bank (ECB) is starting to sound increasingly hawkish, as the Ukraine conflict threatens to further exacerbate the Euro zone’s surging inflation sees further increase 

Headline inflation for June came in at 8.6% (year-on-year), according to preliminary figures released by Eurostat last Friday. The figure marked an increase of 0.5 percentage points compared to the print of 8.1% in May, and was also ahead of a forecast of 8.4% from a Reuters poll of economists.  

Source: Eurostat (online data code: prc_ hicp_ manr)

The inflation woes of the Euro zone have already prompted the ECB to make an about-face in its monetary policy stance, with plans to raise the target interest rate for the first time in 11 years.  

The ECB expects to implement two separate hikes of 25 – 50 basis points each in July and September, in a move which brings it closer to ending eight years of negative interest rates.  

ECB president Christine Lagarde has recently stepped up the intensity of her phrasing on the matter of inflation.  

Last week Lagarde told an ECB forum on central banking held in Sintra, Portugal, that the ECB is prepared to adopt harsher measures to curb inflation should the problem further exacerbate.  

“If we were to see higher inflation threatening to de-anchor inflation expectations or signs of a more permanent loss of economic potential…we would need to withdraw accommodation more promptly to stamp out the risk of a self-fulfilling spiral,” Lagarde said.  

A senior member of the ECB also told CNBC that the monetary authority has plenty of room for further rate hikes, in a sign that it is becoming more serious about tackling inflation.  

Robert Holzmann, governor of the Austrian central bank, told CNBC that there’s still “ample room” for rate hikes of up to 50 basis points after September.  

“We will have to make an assessment where the economic development is going and where inflation stands and afterwards there’s ample room to hike in 0.25 and 0.5 levels to whatever rate we think reasonable,” Holzmann said.  

In June the ECB forecast a growth rate of around 2.8% for the euro zone in 2022. Much doubt surrounds this figure however, given the ongoing war in Ukraine that has led to tensions with Russia – a critical energy supplier for Europe.  

Like the US, the Euro zone has grappled with breakneck inflation since the start of 2022, as the Covid pandemic creates global supply chain gridlocks, and monetary and fiscal measures adopted at the outset of the pandemic inflate the money supply.  

The Federal Reserve is determined to curb inflation, with Governor Jerome Powell recently stating that the monetary authority is willing to risk a recession to contain price gains. Powell appears to have strong political backing from President Biden for further stern measure in future 

In the first half of 2022 the Fed raised its target interest rate by 150 basis points altogether, with a string of gradually rising hikes of 25, 50 and 75 basis points running from April to June. Another 75 basis point hike is now on the cards for July.  

In sharp contrast the Bank of Japan (BOJ)’s June meeting committed to no rate hikes for the time being, as well as potentially limitless purchases of Japanese government bonds (JBG) in order to maintain a cap on long-term lending rates. 

Given these circumstances, it is likely that any hawkish moves by ECB will at the very least help to stem declines of the euro against the dollar, as well as give it much support against the Japanese yen.