ECB ‘Certainly’ Isn’t Done With Interest-Rate Hikes, Knot Says

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(Bloomberg) — The European Central Bank has to continue to raise borrowing costs, according to Governing Council member Klaas Knot, conceding that a slower pace of tightening could be warranted.

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“We are certainly not done with interest-rate hikes,” the Dutch central bank chief told the NRC newspaper in an interview. “Core inflation in the euro zone is now almost 6%, and you can’t fight that with an interest rate of 3%.” 

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“The only question is whether you still need to take a further step up by half a percentage point, like the last few times we raised rates, or can you already scale back to smaller increments of a quarter of a percentage point,” he said. “We will have to determine that in the ECB meeting in May — I haven’t made up my mind yet.” 

Knot’s remarks follow a chorus of officials flagging that the most intense period of rate-hiking in the ECB’s history is nearing its end, though the Dutch central banker warned that policymakers “shouldn’t let falling headline inflation lull us to sleep” as this is largely due to falling energy prices.

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More increases in borrowing costs are still planned to rein in underlying inflation that’s proving more persistent than the main gauge of price gains. But policymakers are mindful of the recent turmoil in the financial sector, which may aid their efforts to return inflation to 2%, albeit by subduing bank lending and economic expansion in the 20-nation euro zone.

“If the baseline we developed before the banking stress holds up, it will be appropriate to have a further increase in May,” Chief Economist Philip Lane told the Cyprus News Agency in an interview published Thursday. “However, we need to be data-dependent about the assessment of whether that baseline still holds true.”

For Knot, banking and inflation strains can’t be completely separated.

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“If there is bank stress, this can lead to higher risk premiums in the interest rates that banks themselves charge to their customers,” he said. “Then the borrowing costs for citizens and businesses will increase even more, on top of what the central bank is already achieving. And then we have to do less. That would be an argument for us to move to smaller interest rate steps.”  

Asked if a rate cut toward the end of the year was thinkable for the euro area, Knot described such a scenario as “almost impossible.”

“Even if we have reached an interest rate level here that we are convinced will bring inflation back to 2% in the medium term, we may well have to keep interest rates at that peak level for a long time.”