On Thursday, the European Central Bank is likely to confirm that it intends to increase interest rates next month. Rate-setting officials meet in Amsterdam to discuss their first meeting of policy outside Frankfurt since the outbreak of the coronavirus pandemic.

Inflation for 19 members of the euro area hit another record high in MayA rate increase would not occur in July because the ECB must first formally stop its net asset purchases according to forward guidance.

The key question is how aggressive the shift will be over the coming months — some analysts have moved their estimates for a larger hike in September at the latest.

Mark Wall, chief economist at Deutsche Bank, stated that “a few Governing council members are open to a $50bp increase.” In a research note.

We believe that the ECB continues to underestimate inflation. As the summer progresses, we anticipate support for a 50bp increase.

The ECB will also publish new staff projections for growth and inflation this week — and market participants are likely to closely monitor the 2024 inflation print as this constitutes the ECB’s medium-term price target.

As expected, the ECB will downgrade its growth forecasts as well as upwardly revise their inflation projections. The 2024 inflation figure is likely to reach 2% which would meet the medium-term target.

The ECB’s Governing Council is concerned about persistently high inflation.

Francois Villeroy de Galhau said at the Paris conference last week that “inflation is both too high and too broad.” “This requires a normalization of monetary policy — I say normalization and not tightening.”

The ECB has a core mandate to combat inflation. However, it will be addressing the issue of fragmentation risk this week.

The end to asset purchases has already caused bond markets to react and have reassessed different risk factors associated with eurozone countries.

The spread between Italian and German bonds is increasing. On Monday, the spread between 10-year and 20-year bonds was over 200 basis points, as compared to less than 140 at the beginning of this year.

“Fragmentation complicates the lives of the ECB.” However, this does not mean that policy tightening will be influenced by the inflation picture,” Dirk Schumacher (an ECB observer with Natixis) stated in a research paper.

He said, “But it remains an important implicit argument to gradualism.”