European Central Bank: Rate hike risk returns with Oil – ING

ING’s Carsten Brzeski argues that the European Central Bank is likely to keep rates unchanged next week but a surprise hike cannot be ruled out. He notes that renewed Middle East tensions and rising Oil prices have restored the macro backdrop seen before the June meeting. The analysis focuses on ECB Monetary Policy, inflation dynamics and internal hawk–dove tensions.

Surprise hike risk despite base case

"Just weeks ago, the 23 July ECB meeting looked like a formality — the last stop before summer break, the one meeting no one would have missed had it been cancelled at the last minute. However, the new escalation in the Middle East and the renewed rise in energy prices have changed the picture once again. Instead of gradually transitioning into summer vacation mode and postponing any rate decision until after the summer, some ECB officials might actually be inclined to push more forcefully for another rate hike."

"Since the 11 June meeting, and the decision to hike rates by 25bp to 2.25%, the external environment, including energy prices, has been on a roller-coaster ride. The late-June ECB conference in Sintra confirmed the macro backdrop of the central bank’s base-case scenario and highlighted policymakers' determination to continue hiking rates. But the subsequent drop in energy prices to below pre-war levels likely removed doubts about a rate hike."

"Remember that next week’s meeting will not come with new macro projections. Still, expect the ECB to have at least run an internal update of where the June projections currently stand, taking the latest oil price developments into account. With current energy prices, we are right back at the ECB’s base case scenario from June."

"Surprisingly slow inflation data in June and very little sign of indirect or even second-round effects should have taken away the urge to hike policy rates further. Still, the ECB’s base case scenario will be a clear argument in favour of yet another rate hike. And not only in the base case scenario."

"All in all, there remains a small chance that the ECB will hike next week. The more realistic scenario, however, is a hike at the September meeting. In any case, instead of a summer lull, next week’s meeting promises one last clash between the hawks and doves before anyone reaches for the sunscreen."