Europe’s central bank faces close call on interest rates as threat of recession grows

Europe’s central bank faces close call on interest rates as threat of recession grows

FRANKFURT, Germany — The European Central Bank piled on a 10th straight interest rate increase Thursday, pressing forward in its fight against stubbornly high inflation that has been plaguing consumers even as worries grow that higher borrowing costs could help push the economy into recession.

The increase of a quarter-percentage point comes as central banks around the world, including the U.S. Federal Reserve, try to judge how much anti-inflation medicine is too much — and what’s the right point to halt their swift series of rate rates before the economy tips into a downturn and people lose their jobs.

The decision raises the ECB’s benchmark deposit rate to 4%, up drastically from minus 0.5% just a little more than a year ago and the highest it has been since the euro was established in 1999.

Interest rates are at levels that “maintained for a sufficiently long duration” will make a substantial contribution to bringing down inflation, President Christine Lagarde said at a news conference.

“Future decisions will ensure that the key ECB interest rates will be set at sufficiently restrictive levels for as long as necessary,” Lagarde said, adding that policymakers will keep relying on available data.

But she added that “we can’t say that now, that we are at peak.”

Annual inflation of 5.3% in the 20 countries that use the euro currency is well above the bank’s target of 2%, robbing consumers of purchasing power and contributing to economic stagnation — supporting arguments for the rate increase.

Pushing the other way was the growing awareness that higher borrowing costs are weighing on decisions by consumers and businesses to invest and spend and are becoming a burden on the economy.

“The ECB’s communcation was clear: today was the last hike in the current cycle,” said Carsten Brzeski, chief eurozone economist for ING bank.

“Looking ahead, a further weakening of the economy and more traction in a deflationary trend will make it very hard to find arguments for yet another rate hike before the end of the year,” Brzeski said.

Higher rates have slammed the real estate market, sending mortgage rates higher and ending a yearslong rally in home prices.

The major European economies — Germany, France, Spain and Italy — also saw shrinking activity in August in the services sector even at the tail end of a strong tourism summer in Spain and Italy, according to S&P Global’s surveys of purchasing managers. Services is a broad category that includes hotel stays, haircuts, car repairs and medical treatment.

That comes on top of a slowdown in global manufacturing that is hitting Germany, Europe’s biggest economy, particularly hard.

The eurozone economy has been teetering on the edge of recession since last year, growing only 0.1% in each of the first two quarters of this year.

Yet the economic picture does not resemble a typical recession because unemployment is at a record low of 6.4%. Labor shortages have sent people’s pay higher — one factor complicating the ECB’s inflation fight.

Also weighing on the outlook is a weaker euro against the strengthening U.S. dollar as investors take the view that economic weakness will hit Europe and China. They are betting that the U.S. Federal Reserve might manage a “soft landing” by finishing its rate hikes without pushing the economy into a downturn.

The Fed made its 11th rate increase in July, bringing its key rate to the highest level in 22 years after pausing in June. Economists and investors generally expect the Fed to skip a rate hike at its meeting next week, but it could increase again in November.

Inflation is lower in the U.S. — at 3.7% — than in Europe despite an upward bump from gasoline prices in August.

Central banks around the world have been hiking rates to stamp out inflation that broke out after the sharp economic rebound from the COVID-19 pandemic strained supply chains and Russia’s invasion of Ukraine sent food and energy prices higher.

The Bank of England raised rates for the 14th straight time last month, and markets think it’s more likely than not that the central bank would hike again when it meets next week.

Interest rates combat inflation by raising the cost of credit for things people want to buy, particularly houses, and for business investment in buildings and equipment. That cools off demand for goods and relieves upward pressure on prices.

The flip side is that rate hikes can hurt economic growth if they’re overdone.

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