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. Last Updated: 07/27/2016

ECB Answers Fed by 1/2% Rise




BERLIN -- In a surprise move, the European Central Bank raised its key interest rates Thursday by a larger-than-expected half percentage point, its fourth interest rate hike this year.


The bank, which manages monetary policy in the 11 countries using Europe's common currency, raised its main refinancing rate to 4.25 percent, its first increase since April when the ECB raised the rate by a quarter-point to 3.75 percent.


The refinancing rate is the interest the ECB charges commercial banks for buying back short-term securities when banks need cash.


Economists and investors had largely expected a June interest rate increase, saying it would come after the U.S. Federal Reserve boosted its rate in late May. But most had only expected a quarter-point rise.


"One of the motives to move by a half a point is that in our view such a move will clear the horizon for some time to come f we don't know how long,'' said ECB President Wim Duisenberg after the decision.


He said increased inflation forecasts were the main impetus for the rate hike.


The ECB also raised the two other rates which form the floor and ceiling for the money market, both by a half percentage point.


The overnight deposit rate was increased to 3.25 percent and the marginal lending rate was raised to 5.25 percent.


The overnight rate is the interest paid by the ECB to bank when local banks deposit excess money with the central bank. The marginal lending rates are the interest paid by banks to the ECB, when they need quick emergency loans.


The ECB also announced Thursday that it would switch to a variable rate tender system as of June 28.


Variable rates are set by banks telling the ECB not only how much money they want to borrow, but also what interest rate they want to borrow at.


That can lead to overall higher interest rates. But it can also leave the ECB's main interest rates exposed to the ravages of market speculation that could boost rates too high too fast.


The euro jumped immediately after the rate announcement by 0.43 percent to 96.53 cents.


The euro has bounced back from a record low of 88.45 cents against the dollar last month to stabilize in the 95 cent range over the last week.


The reason: Traders are stocking up on the currency in the wake of weaker-than-expected economic data from the United States, including unemployment figures and worker productivity, which Tuesday posted its smallest increase in nine months.


"Growth is improving in the euro zone, whereas in the United States, we are already seeing some indicators that point to decline,'' said Michael Schubert, an economist with Commerzbank.


"Economic growth differences between the U.S. and Europe are beginning to decline,'' he added.


As concern mounts that the U.S. economy is in store for a possible crash landing f with the dollar following suit f investors are looking to Europe as an alternative.


While this year's European growth rate of 3.5 percent lags behind the 5 percent seen in the United States, Schubert forecasts that both regions will grow around 3.25 percent next year.


The euro got a further boost when European finance ministers announced Monday that they were committed to balancing their budgets next year, one year ahead of plans.


European stock markets flinched at the surging interest rates, but still remained buoyed by hot technology companies.


London's FTSE-100, Frankfurt, Germany's DAX Index, and Paris' CAC-40 Index were all up less than 1 percent after Thursday's announcement.


Part of the problem with the ever-shrinking euro is that the U.S. federal funds target rate stands at 6.5 percent, its highest level in nine years and significantly above the ECB's main interest rate.