{"id":9339,"date":"2022-07-28T17:29:29","date_gmt":"2022-07-28T14:29:29","guid":{"rendered":"http:\/\/www.liberalglobe.com\/?p=9339"},"modified":"2022-07-28T17:29:31","modified_gmt":"2022-07-28T14:29:31","slug":"what-do-the-spread-control-mechanism-mean-for-the-eu-economy","status":"publish","type":"post","link":"https:\/\/www.liberalglobe.com\/?p=9339","title":{"rendered":"What do the Spread Control Mechanism mean for the EU Economy?"},"content":{"rendered":"\n

The 50 basis point increase in the ECB’s deposit rate, double what the ECB had initially communicated and in line with the hawks’ wish, was combined with the announcement of a new spread control tool, the Transmission Protection Instrument (TPI). <\/p>\n\n\n\n

The threat of recession is greater in Europe: the war in Ukraine and the energy and inflation shock are driving up food and fuel costs, while the euro has lost 12% of its value against the dollar since the start of the year. So the attention turns to the ECB’s next steps and what its decisions mean for the markets and the economy.<\/p>\n\n\n\n

What will the ECB do until the end of 2022?<\/strong><\/p>\n\n\n\n

The ECB hinted, however, that further interest rate hikes are coming, probably also at the next meeting in September. The more aggressive hike brings the ECB closer to other major central banks \u2013 with the FED having already “raised” interest rates by 225bps. and be expected to increase them further \u2013 but it also suggests that perhaps the Board sees the window for increases closing quickly if the Eurozone recession scenario materializes.<\/p>\n\n\n\n

Trust Economics <\/em>expects a further increase of 50 bp. in September, as well as two increases of 25 bp. in October and December, bringing rates to 1% at the end of 2022. It also expects the final rate of 1.75% to be reached in March 2023. The threat of further disruptions to the flow of natural gas from Russia and the possibility of new pressures on countries’ budgets, however, may cause the ECB to hold off on rate hikes when these reach 1.5%, as he adds.<\/p>\n\n\n\n

Loans are more expensive<\/strong><\/p>\n\n\n\n

The ECB raised by 50 basis points in addition to the deposit rate and funding costs \u2013 bringing the main refinancing rate and marginal lending facility rates to 0.5% and 0.75% respectively.<\/p>\n\n\n\n

An increase in interest rates will mean an increase in the repayment installments of loans with variable interest rates, as well as an increase in interest rates on new loans. At the same time, the new interest rate environment is making the terms of raising capital from the markets more expensive for businesses, while putting pressure on equity valuations. Also, although it works as a support for banks’ interest income, it also entails the risk of an increase in bad loans.<\/p>\n\n\n\n

Raising interest rates is considered the standard cure for hyperinflation. But by making credit more difficult, interest rate hikes can slow economic growth, a major challenge for the ECB at a time when the European economy has the added concern of a possible Russian gas cut. The impact of high inflation on purchasing power, continued supply constraints and higher uncertainty are having a negative impact on the economy, while businesses continue to face higher costs and disruptions to their supply chains.<\/p>\n\n\n\n

It is telling that just one day after the ECB meeting, the Eurozone composite PMI fell below 50 \u2013 from 52 in June to 49.4 in July. This signals a contraction in the economy and reinforces expectations that the Eurozone is moving rapidly towards a (mild) recession.<\/p>\n\n\n\n

Spread Control Mechanism-Transmission Protection Instrument (TPI)<\/strong><\/p>\n\n\n\n