The ECB Rate Hike Is a Diversion – Christine Lagarde Has Paved the Way for the Return of Infinite QE

Talking about economics is good, understanding economics is better.

This month of July 2022 marked a turning point in the European Central Bank's monetary policy as Christine Lagarde just announced the first rate hike in 11 years!

Reading the headlines in the media, this is an incredible event:

“A turning point for the European economy”

“A risk of explosion of the euro zone”

This is what we have been reading for the last few days following this announcement by the ECB.

So yes, the ECB did raise interest rates for the first time in 11 years. The ECB decided to raise its rates to 0.5% while it was initially considering raising them by only 0.25% a few weeks ago. What has just happened must obviously be seen as a change of course after years of laxity and negative interest rates:

However, before we go any further and give in to the mainstream thinking induced by the headlines, we need to analyze the situation in more depth to understand that this increase in key rates by the ECB is not actually a hike.

5 points to understand that the real news is not the rise in rates, but the return of Quantitative Easing

The first thing to consider is that the ECB is reacting with delay. Very late. All the other major central banks in the world have already raised their rates. In the case of the Fed in America or the Bank of England in Great Britain much more so.

The second thing is that the ECB has maintained negative interest rates when the economic situation in the Eurozone no longer justified it. With the strong growth of the COVID-19 exit and the slippage of inflation that had started long before the war in Ukraine, there was no longer any justification for the aberration of negative interest rates.

Third, the increase announced by the ECB is “only” 0.5%. After this “spectacular” increase, rates in the euro zone are now at ... 0%. Yes, you read that right: 0%!

Inflation is between 8 and 9% in the Eurozone, and rates are at zero. You know as well as I do that this inflation rate is aberrant and that it will come down, but it will not come back to 2% in 18 months, and 0% interest rates, with inflation well above 3 or 4%, is a total aberration. But the ECB is not far behind ...

Fourth, the big argument of the headline makers wishing to create panic on the markets is that the ECB is raising rates while the European economy is suffering from the energy crisis and Italy is entering a major political crisis.

Again, it is important to step back and look at the big picture. With eurozone interest rates at 0%, there is no reason to slow growth or for Italy to leave the eurozone.

Fifth, and probably most important here, the media has generally focused on the headlines about the rate hike, leaving out the most important part of what the ECB has just announced.

The ECB has given itself the means to intervene without limits on a country's borrowing if the situation warrants it. You will have understood that this is to protect Italy. This announcement by the ECB is simply huge. In the event of a slippage in Italian interest rates, for example, the ECB will be able to buy Italian debt without limit in order to avoid the fragmentation of the euro zone.

Christine Lagarde has therefore done the minimum service.

She pretended to raise interest rates on one side to show that the ECB was acting against inflation. This was an important message that the markets were expecting. But on the other hand, one has to weigh the scope and the real consequences of this rate hike. It is so limited and the level of rates remains so low that this increase is not a real one.

This increase announced by Christine Lagarde is accompanied by a massive program of potential injections of liquidity in case of danger on the debt of a country in the euro zone. The ECB has therefore just announced the potential return of Quantitative Easing in unlimited mode.

This should make you think about what to expect in the coming months. Talking about the economy as some media do is good, but understanding it and digging beyond the headlines is better.

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