Fed Increases, ECB Sits Tight

Investors eagerly await the Federal Reserve Bank’s and the European Central Bank’s forthcoming interest rate decisions. When will both central banks start hiking their policy interest rates? A study from the Cologne Institute for Economic Research (IW) shows that the Fed will start its lift-off this year, while the ECB will stick to its accommodative monetary policy further on.

The IW study comes to the result that the Federal Reserve Bank is likely to increase the target range for the federal funds rate from 0.00 to 0.25 percent up to 0.25 to 0.50 percent this year. The reason for this is that the US economy is improving further on and its labour market nearly reached full employment. Increasing the federal funds rate would not endanger economic growth, say the IW economists. „Moreover, it will be a strong signal that the Fed is confident that the US economy is persistently improving“, says IW director Michael Hüther. However, he does not expect the Fed to increase the funds rate target again at the beginning of next year.

The outlook for the Eurozone is less optimistic: The economic growth is still anaemic and companies abstain from investing despite low funding costs. And the ECB’s large-scale asset purchase program is not showing the expected effect: Inflation in the Eurozone is still low. But inflation will only stabilize when the investment outlook improves such that companies will make use of the low lending interest rates. „At the moment, the ECB can only prevent prices from falling further“, says Hüther. For inflation and interest rates to converge back to normal levels, investment activity has to improve. The European Capital Markets Union is an important step towards reviving cross-border capital flows and towards a more investment-friendly environment. But this is in the distant future.