Investors fear another hefty ECB rate hike will add pressure on banks

Frankfurt (Germany) (AFP) - The ECB will Thursday become the first major central bank to meet since markets were rocked by banking crisis fears, testing the eurozone institution’s resolve to implement another hefty rate hike.

Investors say the European Central Bank should reconsider its plans following the collapse of Silicon Valley Bank and Signature, the sector’s biggest failures since the 2008 financial crisis.

Fears of contagion have spread to Europe, with a market rout forcing Credit Suisse to tap on a financial lifeline from the Swiss central bank.

After seeing its stocks in freefall on Wednesday, Switzerland’s second biggest bank, already battling multiple scandals, sought to stave off the latest crisis by announcing it would borrow up to $53.7 billion from the country’s central bank.

Its shares soared more than 30 percent at the open Thursday, and European stocks rebounded.

Since 2021, Credit Suisse has faced problems ranging from the bankruptcy of British financial firm Greensill, in which some $10 billion had been committed, to the implosion of US fund Archegos, which cost it more than $5 billion.

Its annual report this week acknowledged “material weaknesses” in internal controls.

- ECB’s ‘difficult task’ -

The turmoil has triggered uncertainty as to whether the ECB will stick to its plan to implement a half-percentage-point hike, as widely expected, as it battles high inflation or hold off for fear of worsening the situation.

“The ECB has the difficult task to be the first major central bank to decide what to do amid the banking crisis,” said Ipek Ozkardeskaya, analyst at Swissquote Bank.

ECB president Christine Lagarde has said that the bank will very likely raise rates by another 50 basis points

“Its decision could change the expectations for other central banks.”

The US Federal Reserve and Bank of England hold meetings next week.

SVB’s demise was precipitated by the US Federal Reserve’s own rate-hike campaign, which brought down the value of bonds with lower returns that the California bank held, causing it to lose $1.8 billion.

Neil Shearing, from Capital Economics, predicted “a tussle” between interest-rate hawks and doves at Thursday’s meeting of the 26-member ECB governing council.

“The outcome will ultimately be decided by a ‘swing’ group of policymakers… if they judge that the financial risks are contained, it’s still possible that policy rates are raised,” he said.

Some analysts predicted rates may still be raised, but less than earlier expected, with the ING analysts suggesting the Frankfurt-based institution could downshift to a 35 basis point increase.

- ‘Reassure investors’ -

Ahead of the market upheaval, ECB president Christine Lagarde had said the bank’s council will “very, very likely” raise interest rates by another 50 basis points.

If that does still happen, it will be the sixth successive hike in the 20-nation currency club and leave the ECB’s three main rates 3.5 percentage points higher since July.

Shearing of Capital Economics also said Lagarde would Thursday need to “reassure investors that no major eurozone European banks are in the same position as Credit Suisse and – more importantly – stress that eurozone institutions have the unequivocal backing of the ECB”.

While the monetary hawks will still argue that there is no threat of contagion from SVB for the eurozone, it is clear that the bank’s failure would bolster doves’ case that interest rate hikes are not as painless as they are made out to be, said Axa chief economist Gilles Moec.

The ECB has hiked rates at a historically fast pace to cool consumer prices after energy and food costs shot up in the wake of Russia’s war in Ukraine.

Declining energy prices in recent months have helped slow inflation to 8.5 percent in February, although that is still far above the ECB’s two-percent target.

But excluding volatile energy and food costs, core inflation hit a fresh record high of 5.6 percent, bolstering the argument for further interest rate rises.

The ECB is set to release a new set of economic forecasts on Thursday that will help guide its decisions.

Back in December, the bank expected inflation to soften to 3.4 percent in 2024 and 2.3 percent in 2025.

The ECB does not expect a recession in 2023, and any upward revisions to economic growth forecasts would make it easier for policymakers to back more monetary tightening.