The European Central Bank (ECB) met for its October meeting last Thursday.

Within a week, the ECB, the US Federal Reserve, and the Bank of England will have all provided an update on their underlying economies and their stance on monetary policy for now and the future. The ECB was the first to present with the Federal Reserve and Bank of England meeting today and tomorrow respectively.

The interest rate increase of 0.75% undertaken by the ECB was expected, which doubled the underlying deposit rate to 1.5%. This third interest rate hike in a row, highlights that, like its peers, the ECB is firmly looking to reduce inflation and bring it back down to its target level of 2%. Alongside the interest rate hike, there was also a change to the banks Targeting Long Term Refinancing Operation (TLTRO) to match the underlying deposit rate from the ECB. The TLTRO is a programme run to stimulate lending in the European economy by providing long term funding at favourable levels to banks. The TLTRO underlying rate was still at -1% which was causing a stir in European politics, and so it was largely understood that the rate would increase to the ECB’s headline rate of 1.5% to remove this issue.

What was extremely interesting that came out of the meeting was the change in tone both in the statement provided, and within President Lagarde’s press conference.

As we have moved through the year and central banks have continued to press ahead with interest rate hikes, it does seem that we are getting closer to the peak level of interest rates, as central banks cannot persist with raising rates at these levels forever. This was implied last week by the ECB who stated that ‘with this third major policy rate increase in a row, the Governing Council has made substantial progress in withdrawing monetary policy accommodation’ (1). Within the press conference the ECB chair, Madame Lagarde, emphasised that further hikes are still to come as inflation is elevated, but the council is cognisant of the downside risks to growth in the European economy.

It is not just the ECB who have highlighted that they are getting closer to the end of the rate hiking cycle. The Bank of Canada raised interest rates by 0.5% last week, which was lower than markets expected, with the Governor stating that they are getting closer to the end of their own tightening cycle though they are not quite there yet (2). This is after the chief economist at the Bank of England stated in a speech that the big increases in interest rates the market had priced in would deliver a ‘pretty material’ hit to the economy.

This slight change in rhetoric by developed market central banks is starting to be priced into markets, along with the understanding that some of the major inputs into inflation numbers are starting to stabilise and even fall. Commodity prices are falling and areas of the economy like housing are coming under further pressure.

Unemployment is still low and wage inflation is sticky; however, it does seem that with the shift in underlying component prices in the inflation numbers, the market may be right to start pricing in a change to future interest rate expectations. The peak interest rate that the market is pricing in has started to reduce in the past few weeks as investors think we are nearing the end of this rate hiking cycle. Monetary policy changes work with long and variable lags. All central banks will be aware of this and therefore they will want to see what impact their latest announcements will have before moving too far, too fast.

Inflation is still the number one priority for central banks, and we do not think this will change, however, all central banks will not want to push their economies into deep recessions. We believe a slowdown in rate rises moving into the end of the year and through 2023 is warranted at this time. Data dependency is key, and we will be focusing on this in the months ahead as we think this will drive the end point for interest rates for the major economies in the future.

1 European Central Bank October 2022
2 Bank of Canada October 2022