Banking troubles won’t stop ECB hiking to 4%

We think that the recent stress in the banking sector has had little impact on the outlook for monetary policy in the euro-zone. While there were significant outflows of bank deposits in the five months ending in February, that was due to higher interest rates rather than a loss of faith in the banks – the deposit outflows were largely matched by inflows into bonds issued by banks. And over the past few weeks there have been no bank failures in the euro-zone, in contrast to the situation in the US and Switzerland. Moreover, euro-zone banks’ share prices are still higher than they were at the start of the year. And a recent survey by the Ifo Institute in Germany showed that the share of companies finding it difficult to obtain loans fell in the first quarter of this year, perhaps because the huge drop in gas prices has improved the outlook for German firms. The Ifo Institute also noted that survey responses did not change even once the banking turmoil began. As a result of all this, we still think that the ECB will raise its deposit rate to a peak of 4%, which is significantly higher than is now discounted in the markets.