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European Central Bank increases interest rate by 0.5%

European Central Bank increases interest rate by 0.5%

The European Central Bank pushed ahead with a large interest rate increase on Thursday, brushing aside predictions it might dial back as markets reacted to the collapse of an American bank and liquidity fears at Switzerland’s second largest lender.
The ECB hiked rates by half a percentage point to 3.5%, underlining its determination to fight high inflation of 8.5 %.

While some foresaw a smaller increase because of the banking turmoil, President Christine Lagarde repeatedly called the banking sector in the 20 countries using the euro currency “resilient,” with strong financial reserves and plenty of ready cash.

And if it became necessary, she said, the ECB is “fully equipped” to provide additional support to the banking system.

“We are monitoring current market tensions closely and stand ready to respond as necessary to preserve price stability and financial stability,” Lagarde said.

ECB Vice President Luis de Guindos said the eurozone’s exposure to Credit Suisse, which is outside the European Union’s banking supervision structure, was “quite limited” and “not concentrated” in any one place.

Their message follows the collapse of Silicon Valley in the US after suffering losses on government-backed bonds that fell in value due to rising interest rates.

Then, globally connected Swiss bank Credit Suisse saw its shares plunge this week and had to turn to the Swiss central bank for an emergency bail out.

The troubles at Credit Suisse dragged down the shares of stalwart European lenders such as Deutsche Bank, BNP Paribas and Societe General on Wednesday. Bank shares recovered Thursday.

Analysts say the share selloff was fed by investor fear that banks took added risks to increase investment returns during years of very low interest rates and some may have failed to safeguard themselves against those holdings turning sour as rates rose.

As for more rate hikes in Europe, Lagarde said “inflation is projected to remain too high for too long” and that further increases will be based on what the numbers show. She did not commit either way, unlike her stance before Thursday’s meeting when she said a rate increase was “very likely”.

“Markets are assuming that this may be the ECB’s last rate hike, but the reality is that developments in the banking sector could shift either way in coming weeks,” said Frederik Ducrozet, head of macroeconomic research at Pictet Wealth Management. “If the panic eases, the ECB is likely to resume tightening before long” with more increases.

Similar questions are being raised about what the US Federal Reserve will do at its meeting next week.

Fed Chair Jerome Powell said only last week that the ultimate level for rates would be “higher than previously anticipated,” leading some analysts to predict the Fed would raise by half a point after slowing the pace to quarter-point in February. Since then expectations shifted back toward a quarter-point.
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