Where will interest rates end up?

The endgame for interest rates is perhaps the most speculated upon point in the economic and financial sphere at the current time. While the European Central Bank (ECB) raised interest rates last week by a further 0.5 per cent, the fourth rise in six months, this represented a slower pace of tightening after the 75-basis-point hike in early November. After being wrong-footed by sudden price rises, the ECB has been raising rates at an unprecedented pace.

Markets expect a terminal rate of about 3 per cent, some analysts see it going a bit higher, but ECB officials remain guarded.

ECB vice-president Luis de Guindos said increases in borrowing costs will continue at a pace similar to the latest half-point move as officials try to tame soaring prices. The ECB will raise interest rates until projections show that unprecedented euro-area price gains are headed back to the 2 per cent target, Guindos told an event in Madrid. Action taken by officials to date isn’t sufficient to achieve that goal, he said.

Inflation story

The ECB was slow to put its foot on the brake initially, with officials in Brussels still selling the transitory story of inflation until quite late in the day. But they’re now making quite different noises, dampening expectations that rate hikes will soon stop.

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“If you compare with the Fed, we have more ground to cover... we’re not slowing down, we’re in for the long game,” ECB president Christine Lagarde said.

The bank has given up a policy of signposting rate hikes in favour of seemingly reverting to more opaque pronouncements.

Avoiding a wage-price spiral is now obviously a greater priority than avoiding a recession. Numbers from Germany backed that view, suggesting the recession in Europe’s largest economy may be milder than many had feared just weeks ago. A gauge of business expectations released Monday by the Ifo institute increased for a third month.

The ECB said it currently expected any recession to be “relatively short-lived and shallow”.