ECB raises rates amid Italian turmoil

This is an audio transcript of the FT News Briefing podcast episode: ECB raises rates amid Italian turmoil

Marc Filippino
Good morning from the Financial Times. Today is Friday, July 22nd, and this is your FT News Briefing.

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Italy changes prime ministers a lot, but when Mario Draghi steps down, investors get worried. The European Central Bank finally made its move against inflation yesterday, and Ukraine and Russia may have a done deal on green exports. Plus, we’ll look at why a whiff of a recession might cause a stock market rally. I’m Marc Filippino, and here’s the news you need to start your day.

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Mario Draghi threw in the towel and resigned yesterday as Italy’s prime minister. Draghi quit after key political parties boycotted a confidence vote in his leadership. The resignation caused parliament to dissolve. Snap elections will take place in September. Draghi is going to be caretaker prime minister until then. Our Rome correspondent Amy Kazmin explains why investors are a little nervous.

Amy Kazmin
Actually, investors are incredibly nervous, and they do not like what has happened one bit. Global markets and investors have a lot of confidence in Mario Draghi. He is famous for essentially saving the euro a decade ago in the eurozone crisis. And many of them had placed high hopes that he was going to be able to undertake very serious economic reforms of Italy’s economy and put it on a higher growth trajectory, which is important for the sustainability of its high public debt. But his exit will raise questions about the reform agenda that he’s agreed and about Italy’s ability to access all of its share of a €750bn Covid recovery fund. Italy is supposed to get €200bn out of that, the largest single recipient of the Covid fund. But in order to access those funds, it has to keep to a very ambitious reform schedule. Now, the question is whether it will be able to fulfil that reform agenda.

Marc Filippino
That’s the FT’s Rome correspondent Amy Kazmin.

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The European Central Bank finally moved against inflation yesterday. It raised interest rates for the first time in more than a decade, ending years of being in negative territory. ECB officials lifted their key deposit rate by 50 basis points instead of 25, which was being debated as recently as last week. The FT’s Martin Arnold explains why the ECB took the more aggressive route.

Martin Arnold
It’s been driven by a couple of key things. One is that there’s no sign that inflation is slowing down. And in fact, there are signs that inflation could continue to rise even at an accelerated rate. And that’s causing real concern at the ECB, particularly as the euro has recently fallen to below parity with the US dollar, which is, which is of course adding, fuelling more inflationary pressure, particularly the imports of energy and food, which are the main drivers of eurozone inflation. And Christine Lagarde, ECB president, mentioned those things. The other thing that she mentioned is inflation expectations. As long as inflation and the longer inflation stays as high as it is, the more people will start to expect it to stay elevated for longer and then start to ask for higher wages, and they’ll start to raise their prices at companies, and that will embed inflation for longer. And that’s what’s really worrying.

Marc Filippino
And Martin, the ECB is also really concerned about Italy. That’s a big reason why the ECB announced a new bond-buying programme yesterday to try and contain rising bond yields like Italy’s and really ward off another broader European debt crisis. How is this programme going to work?

Martin Arnold
It’s unlimited. It is almost entirely at the discretion of the ECB. However, there are eligibility criteria so as long as they’re good EU citizens, then countries can have their debt bought by the ECB. It does really feel like they’ve limited the conditions as much as they possibly could in order to make this powerful a tool as possible. But analysts are still not completely convinced that the ECB can do that much for Italy. If Italy plunges into a self-inflicted political crisis of its own making, whereby at the next election a Eurosceptic government comes into power and reneges on all of its commitments to the EU and launches a big spending programmes, throws fiscal sustainability out the window, in that case, the ECB yesterday made it quite clear that they’re not going to be able to do anything in those circumstances to contain the increase in Italian borrowing costs.

Marc Filippino
Martin Arnold is the FT’s Frankfurt bureau chief.

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Millions of tonnes of grain could soon hit global markets, thanks to a deal between Ukraine and Russia. The two sides came to an agreement late last night in Istanbul in negotiations backed by Turkey and the UN. The goal is to avert a global grain crisis. Under the deal, Russia will end its blockade of Ukraine’s ports in the Black Sea. Cargo ships should be able to collect about 22mn tons of wheat, corn and other crops from Ukraine’s coast. Russia has promised not to attack cargo ships or ports, but sources tell the FT that the Ukrainians are sceptical about Moscow keeping its promise.

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It’s earnings season when investors and folks like us get a peek inside companies financial guts. Now, you’d think investors would hope for good news — rising earnings, big profits, rosy outlooks. But this week, something confused me. It was on Tuesday and was reading the FT’s wrap up of the markets that day. The S&P had ended up like 3 per cent higher, and it sounded like stocks rallied because they think the Federal Reserve is seeing signs of a recession, and that poor second-quarter earnings might drive that point home. To help me figure out why that would fuel a rally, I’m joined by FT markets editor Katie Martin for our regular Friday chat. Hey, Katie.

Katie Martin
Hey, Marc.

Marc Filippino
All right. So I’m going to read an excerpt that appeared in the FT this week for you, Katie. Are you ready?

Katie Martin
I’m ready.

Marc Filippino
All right. So this is from Tuesday, quote, “The broad rally came as investors continued to debate whether the possibility of recession would compel the US Federal Reserve to soften its monetary policy stance”. Now, Katie, the way I read that is that investors are rooting for companies to report poor earnings. So the Fed goes easy on raising rates. Is that the right way to look at this?

Katie Martin
Well, kind of. I mean, yeah. So there is a certain, hope would be probably the wrong word, but there is a certain expectation that if corporate earnings season, which has got underway and there’s some, you know, really big names that are, that are reporting in the next few days, if they basically come out and say, look, we’re just bleeding out here, this is terrible and we’re going to have to cut some jobs or we’re going to have to pull back on some spending, if they’re really miserable, that might give the Federal Reserve pause for thought in terms of the enormous rate rises that they appear to have in mind. But they are laser-focused on inflation, right? This is the only thing that matters, and inflation is running well ahead of target. So even if inflation pulls back, even if we get to the end of the year and inflation is at something like 5 or 6 per cent, that’s still above target, and they’re going to have to, on paper, keep on raising rates to keep trying to get it down at that point. So will corporate earnings, which are not really something that the Fed targets, but will corporate earnings and outlooks be enough to convince them to turn this ship around?

Marc Filippino
I see. So bottom line here is that while investors are, you know, they’re not rooting for companies to do bad, but they’re saying, hey, Fed, take it . . . watch what’s going on here, you know, just take a look at how bad things are going and maybe don’t raise rates. That’s not really looking. They may not even be taking into account these earnings reports as heavily as investors think they might be.

Katie Martin
No, they’ve got different inputs, effectively. But, you know, nonetheless, if companies do suggest that substantial job cuts are ahead, seems unlikely. Unemployment is incredibly low in the US. You know, if the employment picture changes in the States, then they’ve got a different question to answer. But at the moment, they can keep on raising rates because employment’s looking fine. But it is nonetheless possible that companies give a very grim assessment of what’s likely to come in the next three to six months. And it would test the resolve, put it that way, of the central bank. And it might be that they do keep raising rates, but maybe they don’t do it in like whole percentage point increments like we might get soon.

Marc Filippino
Right.

Katie Martin
Maybe they do it a slightly slower pace. But yes, it’s just a mess.

Marc Filippino
Katie Martin is the FT’s markets editor. Thanks, Katie.

Katie Martin
No problem.

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You can read more on all of these stories at FT.com. This has been your daily FT News Briefing. Make sure you check back next week for the latest business news. The FT News Briefing is produced by Sonja Hutson, Fiona Symon and me, Marc Filippino. Our editor is Jess Smith. We had help this week from Michael Lello, David da Silva, Peter Barber and Gavin Kallmann. Our executive producer is Topher Forhecz. Cheryl Brumley is the FT’s global head of audio, and our theme song is by Metaphor Music.

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