FRANKFURT: The euro zone economy may contract in the last quarter of this year and the first quarter of next year because of high energy prices, but it should still manage weak growth in 2023, the European Central Bank (ECB) said on Thursday.
Gross domestic product would inch up by 0.5% for 2023, the bank projected, down from its previous forecast of 0.9%. Stronger growth of 1.9% should then be achieved for 2024, it said.
The ECB also raised its benchmark interest rate by half a percentage point, its fourth successive hike, and outlined plans to shrink its bloated balance sheet from March, hoping that higher borrowing costs will finally arrest runaway inflation.
The central bank for the 19-country euro zone raised its deposit rate to 2%, as expected, and kept further hikes firmly on the table, as fresh economic projections indicated it would still take years to get price growth back to 2%.
The ECB’s rate decision, along with similar moves this week by the Federal Reserve and the Bank of England, may reflect a belief that the worst inflation in a generation — while not vanquished — is at least near its peak. That means the ceiling for borrowing costs could also be in sight.
The ECB has raised interest rates by a combined 2.5 percentage points since July, its fastest pace of monetary tightening on record, to counter inflation driven above 10% this autumn by soaring food, energy and now services prices.
“Based on the substantial upward revision to the inflation outlook, expects to raise them further,” the ECB said in a statement.
The ECB’s next step in policy tightening will be a reduction in its €5-trillion hoard of bonds, bought when it was trying to stimulate economic activity, which will make it more expensive for businesses and governments to borrow.
From the beginning of March 2023, the portfolio will decline at a measured and predictable pace,” the ECB said. “The decline will amount to €15 billion per month on average until the end of the second quarter of 2023.”
This process will raise longer-term borrowing costs whereas more traditional interest-rate increases mostly lift short-term funding costs.
The ECB has already reduced its balance sheet by taking back €800 billion of ultra-cheap funding from banks, but at €8 trillion, its total assets remain exceptionally large by historic standards.