More interest rate hikes likely in Europe despite recession fears, says DNB boss

The head of the DNB, the Dutch central bank, said the European Central Bank still has a long road ahead in the fight against high inflation, but policy making could be made more difficult by the slowing economy. Earlier this month, the ECB raised interest rates for the fourth consecutive time, increasing the main interest rate by 0.5 percentage points to 2.5 percent, with the deposit rate set at 2 percent. The tighter ECB policy is only just reaching a midway point, suggested DNB leader Klaas Knot.

“The risk of us doing too little is still the bigger risk,” Knot told the Financial Times in an interview published on Monday. “We are just at the beginning of the second half.” The ECB has five policy meetings set through July 2023, and Knot predicted that further 0.5 percentage point increases can contribute to addressing the problems currently faced across Europe.

The “main challenge,” he told the newspaper, is for policy-makers to determine when they have done enough. The Financial Times noted that as the longest serving ECB governing council member, Knot is the only rate-setter who was also involved in raising rates in 2011. The move was almost immediately criticized, with The New Yorker writing at the time, “ Again, as if on cue, European economic growth stalled and the continent’s debt crisis deepened, which has created problems for markets around the world.”

The ECB is now contending with record high annual inflation, with the Netherlands outpacing the eurozone average for most of the year. That seemed to reach a turning point in November when the annual inflation rate fell to 9.9 percent in November, down from 14.3 percent the previous month, and a peak of 17.1 percent in September.

The Dutch economy is expected to soon fall into a brief recession, with a minimal amount of growth predicted for 2023. The Netherlands will not be the only country facing a stalled economy: The European Commission said in November it expects most EU countries to fall into a recession by the end of this year, with troubles continuing at least into the spring.

Knot said the risks of instability were “much clearer on our radar screen now,” and could have been more cautious about more factors in 2011 instead of focusing heavily on the price of oil that year. Increasing prices across the board, and not just energy prices, are currently Knot’s “main concern.”

The Dutch central bank leader believes the ECB could have taken more action even in late 2021, and not only after the war in Ukraine started, however he thought the ECB made up for it with larger rate hikes before shifting down to the half-percent increases seen more recently.

Knot is in favor of rate hikes that give the ECB space to see what the effects of tighter policies are on the eurozone as a whole. He also said that it will be difficult getting their message across about the benefit of raising rates when the economy is stalled and member states are staring down a potential recession.

A great deal still “depends on the depth of the recession and we have to keep in mind that even if inflation is falling, it is coming off incredible peaks.” He had some optimism for a “short and shallow” recession even with rising wages keeping inflation relatively high for at least two more years.

The latest data from Germany suggests that "the worst may already be behind us,” Knot told the Financial Times.