December hike remains UOB’s base case for European Central Bank

A 25 bps rate rise in December remains UOB economist Lee Sue Ann's forecast for the European Central Bank (ECB). Despite leaving key rates on hold in October, the ECB struck a hawkish tone, Ann notes. Ann flags upside risks to inflation from the energy shock, tighter financial conditions and political uncertainty in France. The expected increase would bring the Deposit Facility Rate to 2.75%, followed by a period of policy stability.

25 bps December rise signalled by ECB's hawkish pause

"Notably, Lagarde's comments strongly suggest that the ECB has not abandoned its tightening bias. While reiterating the ECB's meeting-by-meeting approach, she stated that unless incoming information materially alters the current picture, "the direction of travel is quite clear". The message is consistent with our longstanding view that Dec rather than Oct was always the more likely timing for any final adjustment."

"We therefore maintain our forecast for a 25 bps rate hike at the 17 Dec meeting, which would lift the Deposit Facility Rate to 2.75%. By then, policymakers will have access to updated staff projections, additional inflation data, wage developments and growth indicators. Unless there is a material easing in energy prices or a sharp deterioration in activity, the balance of risks still points toward one last tightening step before the ECB moves to an extended period of policy stability."

"A key reason for the ECB's decision to pause is the substantial tightening in financial conditions since Sep. Long-term government bond yields have risen sharply across advanced economies, with Lagarde noting that average 10-year sovereign yields have increased by around 35 bps relative to the assumptions underlying the September projections. Equity prices have also fallen while borrowing costs for households and businesses have moved higher."

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