European Central Bank Decision (March 2023)

ECB's 50bps hike, is it a signal for the Fed?

• After Swiss financial authorities moved to ease liquidity concerns in the sector yesterday, the sell-off in European markets has abated. However, uncertainty persists and continues to weigh on the European financial sector.    
• Amid the ongoing stress, the ECB's Governing Council chose to stick to its previously telegraphed 50-basis point rate hike for its three key interest rates. This will take the main deposit facility rate to 3.00%, while the rate on the main refinancing operations and the marginal lending facility will be 3.50% and 3.75%, respectively. 
• Acknowledging the risks, policymakers emphasized that, "the ECB's policy toolkit is fully equipped to provide liquidity support to the euro area financial system if needed and to preserve the smooth transmission of monetary policy." 
• The statement opened with the emphasis that "Inflation is projected to remain too high for too long." The accompanying projections – noted to have been generated "before the recent emergence of financial market tensions" – show policymakers expect inflation excluding food and energy to average 4.6% in 2023, before sliding to 2.5% in 2024, and 2.2% in 2025. Euro area GDP growth is expected to average 1.0% in 2023 and 1.6% in 2024 and 2025.

Key Implications

• Today's 50 basis point decision leaves no question on the ECB's commitment to fighting inflation and the strong push-and-pull on the central bank. This will ring familiar to the Federal Reserve next week, where a 25 basis point rate hike is expected on our end, even though markets are not fully priced for that outcome. One distinction is that the ECB is not as far along in their rate hike cycle as the Fed, and faces more pressing inflation pressures than in the U.S. 
• With supply side pressures only slowly fading, ECB projections suggest that headline and core inflation will persist well into the medium-term. Our forecasts anticipate stronger inflation through 2023, before notable softening in 2024 amid tepid demand growth. 
• The one "give" the ECB did in a nod to recent banking risks was to remove forward guidance. They will move to a meeting-by-meeting approach, examining incoming data to inform decisions. Any further strains on financial stability will work to offset concerns on persistent inflation and weaken the rates outlook. We may very well see a similar strategy from the Federal Reserve next week to show less commitment on the May decision to ensure full optionality if market confidence worsens between now and then.

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