ECB rate hike expectations have cooled; Lagarde: Rising long-term interest rates will dampen growth and inflation.

The latest remarks by the European Central Bank president have significantly cooled market bets on further tightening of policy by the ECB.

European Central Bank President Christine Lagarde said on Monday that a significant rise in long-term interest rates would slow economic growth and inhibit the transmission of energy prices to overall inflation, to a greater extent than the ECB predicted in September. She also emphasized that, in the absence of signs of a second-round effect, the ECB should take "moderate measures" to control inflation.

As a result, traders have reduced their bets on ECB monetary tightening, and the market now expects less than 40% of the ECB to raise interest rates in October.

Lagarde pointed out that the ECB's current interest rate level is at the upper end of the range that has a neutral impact on the economy, namely the top of the 2% to 2.5% range. However, she emphasized that the ECB's monetary policy is not based on the neutral interest rate.

Meanwhile, escalating tensions in the Middle East have driven up oil prices, and concerns about the inflation outlook have intensified again. Investors are now pricing in nearly four 25-basis-point rate hikes by the ECB over the next year.

Rising long-term interest rates replace interest rate hikes

Lagarde stated that since the ECB's last policy meeting, long-term interest rates have risen significantly, a trend that will slow economic expansion and suppress inflation transmission, exceeding the ECB's September forecast scenario.

This means that the rise in market interest rates has, to some extent, served the function of tightening monetary policy, providing the ECB with room to pause its actions.

She reiterated that "interest rate movements do not follow energy price trends," and that the ECB's policy focus is on its ability to proactively identify the emergence of a second wave of effects.

Lagarde points out that "by the time the second-round effect actually manifests, there is already a lag," but she also emphasizes that "no indication has yet been observed that the second-round effect may occur."

Short-term inflationary pressures remain, but AI may help reduce long-term inflation.

Lagarde stated that eurozone inflation is expected to rise further due to the energy crisis , but there is currently little evidence that rising energy costs will exacerbate broader price pressures in the economy.

Lagarde also pointed out: "Artificial intelligence has the potential to help businesses increase output, and over time, higher productivity can reduce costs. All else being equal, this should reduce inflationary pressures in the long run."

Data to be released this week is expected to show that the eurozone's inflation rate jumped to 3.7% in September from 3.2% in August, well above the policy target of 2%. Meanwhile, consumer expectations for future price increases rose again last month.

The ongoing conflict in the Middle East has dampened market hopes for a short-term easing of tensions, pushing oil prices higher on Monday and reigniting concerns about rising inflation.

Investors currently expect the ECB's deposit rate to rise by nearly 100 basis points over the next year, adding to the two previous rate hikes. If this rate hike path materializes, borrowing costs will reach a level that substantially inhibits economic activity.

Fiscal policy was specifically mentioned, prompting the ECB to call for precise and measured aid measures.

On the fiscal policy front, Lagarde again criticized how governments are responding to rising energy prices.

She stated that financial assistance measures should be temporary and precisely targeted at the residents and businesses most in need of help, but the reality is not so ideal.

"From the perspective of the European Commission and ourselves, these measures are neither necessarily temporary nor precisely targeted," Lagarde said. "They are 'one-size-fits-all' measures that do not specifically focus on the most vulnerable and susceptible groups."

Her statement continues the ECB’s long-standing focus on fiscal policy discipline, especially given the backdrop of a sharp sell-off in the bond market that has put pressure on some fiscally vulnerable eurozone member states.

Risk Warning and DisclaimerInvesting involves risk; please exercise caution. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Any investment decisions made based on this information are at your own risk.