FAQ

ECB raises interest rates for first time in 11 years

Tags: Economy/Finance International News

The European Central Bank (ECB) has raised interest rates for the first time in more than 11 years as it tries to control soaring inflation. The central bank of 19 nations that share the euro currency, raised its key interest rate by 0.5 percent or 50 basis points to zero on 21 July 2022.

Negative Interest regime

• This marks the end of the negative interest rate regime in the euro zone area.
• The ECB began reducing interest rates after the 2008 financial crisis to stimulate growth, and later reduced it to as low as -0.5% during the pandemic.
• This was done to discourage people from depositing money in the banks and instead spend it in the market to stimulate demand in the economy.
• If the central bank reduces its interest rates to negative then the banks will also provide negative interest on deposits.
•  If a person deposits money in the bank then the person will have to pay charges to the banks for depositing money with the banks.
• The person will then not deposit the money in the bank but will spend it in the market which will create demand for goods and services.
•  This will increase the production of goods and services in the country leading to growth in the country’s economy and an increase in employment.

Challenge of Inflation

• The Euro zone countries like the rest of the world are facing sharp increases in the prices of food, fuel and energy costs due to the Ukraine war and Covid supply chain issues.
• The consumer prices in the region have increased at a record 8.6% in the 12 months well above the bank's 2% target.
• The ECB has raised its rates after the Bank of England and the US Federal Reserve also increased their rates to control inflation.
• The Eurozone is highly vulnerable because it relies heavily on Russia for its oil and gas.
•  This week it urged member states to begin rationing supplies amid fears Moscow will halt gas supplies this year, causing further price rise.

Fear of Recession  

• When there is a negative growth in the economy for the two consecutive quarters then the economy is in recession. 
• Many fear that with further increases in the rates, loans will become costly in the Eurozone which will affect the people’s purchasing power.
• This will result in people spending less in the market. It will lead to lowering in demand of goods and services which will lead to fall in production of goods and services. 
• This could lead to closure of companies and cause widespread unemployment.
• These fears has helped push the euro to a 20-year low against the dollar in recent weeks.

European Central Bank (ECB)

The European Central Bank was set up on 1 June 1998.

It is the Central Bank of the 19 European Union countries which have adopted Euro as their common currency.

The European Union at present has 27 member countries.

The ECB makes monetary policy for the member countries

Euro as a common monetary unit was introduced on 1 January 1999

Member countries of Eurozone: Belgium, Germany, Spain, France, Ireland, Italy, Luxembourg, the Netherlands, Austria, Portugal and Finland, Slovenia, Cyprus, Malta, Slovakia, Estonia, Latvia, Lithuania. 

Headquarters of the ECB: Frankfurt, Germany 

President of the ECB: Christine Lagarde