Eamets: Surprise, European Central Bank Did Not Raise Interest Rates Contrary to Market Expectations

The European Central Bank (ECB) decided today to keep the deposit facility base interest rate at its current level of 2.00%. This was a major surprise, as markets had expected a decision to increase interest rates by at least 0.25 percentage points, since Euribor has already been moving in the range of 2.4%-2.5% for over a month. The European Central Bank's inflation expectations have risen, and the overall price growth outlook in Europe today is rather negative, meaning inflation acceleration is being forecast. According to the ECB's own darker scenarios, eurozone inflation could reach 4% this year, which is twice the targeted inflation rate.

According to monetary policy theory, the central bank should respond to rising inflation by reducing the money supply, which essentially means raising interest rates. Therefore, today the question is not whether interest rates will be raised at some future meeting, but rather how many times they will be raised. Market expectations today are such that the six-month Euribor will be 2.8% in autumn, which means two to three more interest rate increases are coming. More increases cannot be ruled out if the most negative scenarios materialize.

Background information

Why are we seeing price increases accelerate this year and why is this not a short-term shock? The Middle East crisis shows no signs of abating, and the longer the turmoil around the Strait of Hormuz continues, the greater the oil and gas deficit becomes, or in economic terms, the more the price of oil and gas rises. Both are important production inputs in fuel and electricity, but also in fertilizer production. Not to mention all manner of petroleum products. Various products - for example plastic films (polyethylene), all sorts of packaging materials (polyethylene terephthalate), foam plastic (polystyrene), fleeces (polyester) are things that first come to mind when we think about what all can be made from oil. Qatar produces 35% of the world's helium, which is a very important component in chip manufacturing. Presumably this list could go on for quite a while.

Oil producers are also not interested in quickly reducing the shortage, as today their profits are double compared to the pre-crisis period. Restoring Qatar's gas production infrastructure will take several years. Therefore, the effects are long-term and the problems will not be solved at the moment when tankers finally start moving.