Now the great art of communication is required. A real liberation is needed. The European Central Bank (ECB) faces the challenge of extricating itself from the precarious position in which it has placed itself.

If ECB President Christine Lagarde succeeds in this feat, she would almost have to be called a magician. Because it would border on magic if it manages to free itself from the historic monetary policy dilemma. It is clear that the ECB will reverse course after a good decade of cheap money. Lagarde himself announced this at the end of May. However, it will be difficult to manage the historical turning point without major turbulence.

Actually, based on the Taylor rule, which calculates key interest rates according to scientific criteria depending on inflation and the unemployment rate, the key interest rate in the euro zone should actually be 7.4 percent. But he is not there. Although inflation has soared to over eight percent, the key interest rate remains at zero and the deposit rate for banks is even minus 0.5 percent.

This shows how far the monetary policymakers are lagging behind the development of the real economy and that a quick and bold turnaround in interest rates is now needed. In any case, the bond markets are sending serious alarm signals. Yields on ten-year German government bonds are facing their biggest quarterly increase since 1994. There are fears that the ECB will not be able to catch inflation again any time soon.

So Lagarde could stand up, admit her mistake in expecting inflation and courageously announce the interest rate turnaround for July 21st. Between the lines, Lagarde hinted that inflation is not a temporary phenomenon, but that the world is moving in a new inflationary landscape because structural trends such as hyper-globalization have come to an end.

In the USA, the US Secretary of the Treasury and former central banker Janet Yellen caused a stir with her mea culpa. Yellen said she was wrong about the development of inflation.

But Lagarde doesn’t have that freedom. It must take special account of the weaker euro countries. Because within the euro zone, the centrifugal forces have recently increased significantly. Italy’s interest rates are exploding, the interest premium on Bunds has risen to its highest level since the pandemic.

This is because the monetary watchdogs have committed themselves to phasing out the bond purchase program before the turnaround in interest rates. It was the EUR 3 trillion program that has kept the interest premiums between the euro countries together in recent years.

If Lagarde does not want to risk turbulence in the bond markets at Thursday’s interest rate meeting, she must somehow address the risk of fragmentation, as ECB jargon calls the centrifugal forces. In the 25-member Governing Council, central bankers from Italy or Spain will urge Lagarde to announce a new anti-fragmentation tool to counter the risk of divergent yields. According to reports, the ECB economists are working on a new asset purchase program that will focus on purchases only on the weaker states.

However, the traditionalists in the Council would find it difficult to embark on such a program in order to raise the interest rates of Italy, Spain

The last time interest rates were raised by half a percentage point was 22 years ago. Lagarde faces a multitude of demands and constraints at this Thursday’s meeting and this is where she needs to strike a salvation.

The economic situation does not make it any easier for Lagarde either. Even the ECB’s bleakest scenario for the impact of Russia’s invasion of Ukraine could now prove overly optimistic. The new forecasts by the Organization for Economic Cooperation and Development (OECD) predict growth of just 1.6 percent for the coming year with inflation at 4.6 percent.

This makes the OECD outlook for 2023 even bleaker than the most pessimistic scenario presented by the ECB in March. At the central bank meeting, Lagarde will present the latest forecasts from the ECB economists. If the forecasts also signal the risk of stagflation, i.e. inflation in the face of economic stagnation, this would not make Lagarde’s performance any easier.

The economists at Bank of America expect the ECB to raise interest rates by 1.5 percentage points this year: a sharp rate hike of 0.5 percentage points in July and September and two triple hikes in October and December.

“To be perfectly clear, we still don’t understand the ECB’s rush because we don’t really understand how the economy can even survive a very large energy price shock, let alone how the economy is supposed to cope with neutral interest rates.” , writes Bank of America economist Ruben Segura-Cayuela, summing up Lagarde’s dilemma: “We understand that the central bank is anxious to tackle inflation (although raising interest rates isn’t much with this kind of inflation to be able to help).”

“Everything on shares” is the daily stock exchange shot from the WELT business editorial team. Every morning from 7 a.m. with our financial journalists. For stock market experts and beginners. Subscribe to the podcast on Spotify, Apple Podcast, Amazon Music and Deezer. Or directly via RSS feed.