London Daily

Focus on the big picture.
Friday, May 30, 2025

The ECB was in a real bind over interest rates – but the Fed and Bank of England's task is slightly easier

The ECB was in a real bind over interest rates – but the Fed and Bank of England's task is slightly easier

Europe's monetary policy regulator could have sparked a big sell-off in European shares had it shied away from a 0.5 percentage points rise which the market had expected earlier this week.
The European Central Bank was in an incredibly difficult position ahead of today's interest rate decision.

Inflation in the eurozone is still running at 8.5% - more than four times the ECB's target rate - while the 'core' rate of inflation, which strips out volatile elements such as energy, food, alcohol and tobacco, actually rose from 5.3% in January to 5.6% in February.

Under those circumstances, markets had fully priced in a rise in the ECB's main policy rate from 2.5% to 3%.

Then came the collapse of Silicon Valley Bank, America's 16th largest lender, sparking turmoil in banking shares and equity markets initially in the US and then, during the last 48 hours, in Europe.

The headline act here was Credit Suisse, the accident prone Swiss lender, whose share price fell in Zurich by 24% on Wednesday.

The ECB, as a key player in the maintenance of financial stability in the eurozone, might then have been forgiven for pausing to take stock of the situation.

It has emerged that it has been informally asking some of the eurozone's major lenders during the last 48 hours about their exposure to Credit Suisse.

Rare and dramatic market moves

Accordingly, some market participants began reassessing the prospects of a half-point interest rate rise this week.

The market began to price in a quarter-point, not half-point, rate hike.

Nowhere was this more apparent than in the market for eurozone government bonds.

The yield - an implied borrowing cost - on two-year German government bonds plunged from 3.277% last Friday morning to as low as 2.373% this morning.

Similarly, the yield on two-year French government bonds slid from 3.1788% last Friday night to as low as 2.5080% on Wednesday afternoon.

These are dramatic moves the like of which are rarely seen in government bonds.

Little choice for an ECB in a bind

But the ECB was in a real bind.

Had it shied away today from a half-point rise, which the market had been expecting earlier this week, it might have prompted some market participants to wonder what the ECB knew about the stability of the eurozone banking sector.

It would probably have sparked a big sell-off in European equities.

So ECB President Christine Lagarde and her colleagues on the bank's rate-setting governing council probably had little choice but to press ahead with the rate rise everyone had been expecting from it until earlier this week.

Instead, they chose to nod to the upheaval in banking stocks in the accompanying statement, adding: "The governing council is monitoring current market tensions closely and stands ready to respond as necessary to preserve price stability and financial stability in the euro area.

"The euro area banking sector is resilient, with strong capital and liquidity positions."

A dilemma to be faced by the US and UK

The dilemma faced by the ECB will be faced next week by both the US Federal Reserve and the Bank of England as they make their own policy decisions.

In some ways, their task is slightly easier than the one the ECB faced today, because both have been raising interest rates more rapidly than Mme Lagarde and her colleagues.

Yet in both countries, inflation - while slowing - remains well ahead of the Fed's and the Bank's target rates.

Under those circumstances one would expect the Fed to raise its main policy rate, Fed Funds, from the current 4.5-4.75% to 4.75-5% and the Bank to raise its main policy rate, Bank Rate, from 4% to 4.25%.

Both central banks, like the ECB, also have to weigh the battle against inflation against the risk of sparking a recession.

Jay Powell, the Fed chair, has been quite clear in the past that the Fed will not back off from sparking a recession if that is the price that needs to be paid for bringing inflation under control.

The Bank, on the other hand, may be persuaded to keep rates on hold and leave it for a few more weeks.
Newsletter

Related Articles

0:00
0:00
Close
Satirical Sketch Sparks Political Spouse Feud in South Korea
Indonesia Quarry Collapse Leaves Multiple Dead and Missing
South Korean Election Video Pulled Amid Misogyny Outcry
Asian Economies Shift Away from US Dollar Amid Trade Tensions
Netflix Investigates Allegations of On-Set Mistreatment in K-Drama Production
US Defence Chief Reaffirms Strong Ties with Singapore Amid Regional Tensions
Vietnam Faces Strategic Dilemma Over China's Mekong River Projects
Malaysia's First AI Preacher Sparks Debate on Islamic Principles
White House Press Secretary Criticizes Harvard Funding, Advocates for Vocational Training
France to Implement Nationwide Smoking Ban in Outdoor Spaces Frequented by Children
Meta and Anduril Collaborate on AI-Driven Military Augmented Reality Systems
Russia's Fossil Fuel Revenues Approach €900 Billion Since Ukraine Invasion
U.S. Justice Department Reduces American Bar Association's Role in Judicial Nominations
U.S. Department of Energy Unveils 'Doudna' Supercomputer to Advance AI Research
U.S. SEC Dismisses Lawsuit Against Binance Amid Regulatory Shift
Alcohol Industry Faces Increased Scrutiny Amid Health Concerns
Italy Faces Population Decline Amid Youth Emigration
U.S. Goods Imports Plunge Nearly 20% Amid Tariff Disruptions
OpenAI Faces Competition from Cheaper AI Rivals
Foreign Tax Provision in U.S. Budget Bill Alarms Investors
Trump Accuses China of Violating Trade Agreement
Gerry Adams Wins Libel Case Against BBC
Russia Accuses Serbia of Supplying Arms to Ukraine
EU Central Bank Pushes to Replace US Dollar with Euro as World’s Main Currency
Chinese Woman Dies After Being Forced to Visit Bank Despite Critical Illness
President Trump Grants Full Pardons to Reality TV Stars Todd and Julie Chrisley
Texas Enacts App Store Accountability Act Mandating Age Verification
U.S. Health Secretary Ends Select COVID-19 Vaccine Recommendations
Vatican Calls for Sustainable Tourism in 2025 Message
Trump Warns Putin Is 'Playing with Fire' Amid Escalating Ukraine Conflict
India and Pakistan Engage Trump-Linked Lobbyists to Influence U.S. Policy
U.S. Halts New Student Visa Interviews Amid Enhanced Security Measures
Trump Administration Cancels $100 Million in Federal Contracts with Harvard
SpaceX Starship Test Flight Ends in Failure, Mars Mission Timeline Uncertain
King Charles Affirms Canadian Sovereignty Amid U.S. Statehood Pressure
Trump Threatens 25% Tariff on iPhones Amid Dispute with Apple CEO
Putin's Helicopter Reportedly Targeted by Ukrainian Drones
Liverpool Car Ramming Incident Leaves Multiple Injured
Australia Faces Immigration Debate Following Labor Party Victory
Iranian Revolutionary Guard Founder Warns Against Trusting Regime in Nuclear Talks
Macron Dismisses Viral Video of Wife's Gesture as Playful Banter
Cleveland Clinic Study Questions Effectiveness of Recent Flu Vaccine
Netanyahu Accuses Starmer of Siding with Hamas
Junior Doctors Threaten Strike Over 4% Pay Offer
Labour MPs Urge Chancellor to Tax Wealthy Over Cutting Welfare
Publication of UK Child Poverty Strategy Delayed Until Autumn
France Detains UK Fishing Vessel Amid Post-Brexit Tensions
Calls Grow to Resume Syrian Asylum Claims in UK
Nigel Farage Pledges to Reinstate Winter Fuel Payments
Boris and Carrie Johnson Welcome Daughter Poppy
×