The European Central Bank’s rate-setting board will hold an unscheduled meeting on Wednesday ‘to discuss market conditions’ as borrowing costs in several countries rose after the bank announced it would raise interest rates .
The bank last week announced the July and September hikes without specifying how it would protect countries sharing the euro if borrowing costs rose excessively – as they did during the European debt crisis. in 2010-2012. This is a potential concern for heavily indebted governments, notably Italy.
Spreads between Italian and Spanish debt versus safe German government debt – a key fear indicator for the 19-nation eurozone – widened after the ECB made only nonspecific promises to prevent “ financial fragmentation” or interest rates in individual countries that are so high that they do not reflect the bank‘s benchmarks.
The ECB has a safety net in the bond market in which it could intervene and buy the debt of a country in difficulty. The tool helped ease the debt crisis a decade ago after the bank announced it following a promise by then-president Mario Draghi to do “whatever it takes to prevent the euro zone from breaking up. But this programme, which should never have been used, may come with difficult conditions for reform and governments may be reluctant to turn to it.
Holger Schmieding, chief economist at Berenberg Bank, said “the current situation is different from the euro crisis of just over a decade ago” because countries have improved their growth prospects and that the ECB has bond market support in its back pocket if needed.
Current conditions “should not present an imminent risk, even for fiscally-struggling Italy”, he said.
Interest rates on 10-year Italian government bonds rose from around 1.2% at the start of the year to 4.1% on Wednesday. The ECB’s pandemic support programs, including 1.7 trillion euros ($1.8 trillion) in bond purchases, have helped keep government borrowing costs low in the zone euro. This program ended in March, however, and markets are now eyeing interest rate increases from historically low levels.
The surprise ECB meeting comes on the same day the US Federal Reserve is expected to announce its biggest interest rate hike since 1994. The European bank has followed the Fed and other central banks in raising rates to fight against decades-high levels of inflation, including the Bank of England, which has hiked rates four times since December and will meet again on Thursday.
But now the ECB has scheduled rate hikes for July and September and indicated that the September increase could be half a percentage point higher than usual.
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