The ECB must do more to fight the ‘monster’ of inflation, says Christine Lagarde

Christine Lagarde has warned that underlying price pressures will remain “stubborn in the near term” and signaled that further rate hikes by the European Central Bank are very likely as “inflation is a monster that we need to pat on the head”.

The ECB is not trying to “break the economy” with rate hikes, Lagarde told Spain’s El Correo, as she urged banks to roll over debt repayments for households struggling with rising borrowing costs for adjustable-rate mortgages.

“We are making progress, but we still have a lot to do. . . Right now the economy is resilient, employment robust and unemployment at an all-time low,” said the ECB President, urging lenders to consider the “reputational side” of big executive pay rises.

Lagarde’s comments are the latest sign ECB officials are concerned about persistently high inflation and the need for more rate hikes to contain it – especially after core price growth, which excludes energy and food, peaked in the euro zone in February reached a new record high.

Inflation in the euro zone has been falling for four months after hitting a record 10.6 percent in October, mainly due to falling energy prices. However, headline inflation fell less-than-expected to 8.5 percent for the year to February, and the core metric hit a new high of 5.6 percent.

Line chart showing that Eurozone inflation is declining at a slower than expected rate

Marco Valli, chief European economist at Italian bank UniCredit, said the data was “likely to have implications for ECB policy because influential members of the Governing Council have quite explicitly linked future interest rate developments to core inflation developments.”

Lagarde said it was “too early to declare victory” in the fight to return inflation to the ECB’s 2 percent target even as energy price growth has slowed. It forecast that headline inflation would fall further but that underlying price growth would remain “too high” in the short term – meaning the central bank would be “very, very likely” to go ahead with a well-marked half a percentage point rise at its next meeting on March 16 .

The ECB has raised interest rates by 3 percentage points since last summer. Financial markets are pricing in an increase in the bank’s deposit rate from the current 2.5 percent to 4 percent later this year. That would surpass the 2001 peak of 3.75 percent.

Line chart showing that the ECB has increased borrowing costs at an unprecedented pace

Similar concerns exist in the US, where high inflation and strong jobs and wages data are raising doubts about whether the Federal Reserve will meet again at its March 21-22 meeting.

In the UK, financial markets are betting that the Bank of England will hike rates further, but Governor Andrew Bailey said last week that assumption could be wrong.

Rising interest rates have boosted the profits of European commercial banks, allowing them to raise the rates they charge on loans faster than they raise the rates on deposits that savers earn.

In countries like Spain with a high proportion of adjustable rate mortgages, there are concerns that households may find it difficult to cope with higher borrowing costs.

“I’m sure a lot of banks are willing to review lending terms and spread repayments over a longer period of time,” Lagarde said. “And not out of charity,” she added, noting that it’s in lenders’ best interests to avoid a spike in non-performing loans.

UniCredit, Italy’s second largest bank, has proposed raising the salary of its chief executive Andrea Orcel by 30 percent to €9.75 million a year, making him one of the highest-paid European bank bosses.

“There’s obviously a reputational side to these kinds of decisions that bank leaders should be aware of,” Lagarde said. The ECB must do more to fight the ‘monster’ of inflation, says Christine Lagarde

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