The European Central Bank is expected to cut interest rates by 25 basis points this week, and there are multiple signs that interest rates will soon be lowered further early next year.
ECB President Christine Lagarde did note at Thursday’s press conference that policymakers gathered in Frankfurt do not believe the fight against inflation is completely over and that services inflation remains a concern.
Overall, however, this was the most dovish meeting of the cycle, not least because the ECB’s new macroeconomic forecasts expect lower inflation and economic growth both this year and next.
Economists also welcomed the ECB’s message that the central bank must “maintain adequate policy rate constraints for as long as necessary.” Lagarde stressed that there were downside risks to the already weak euro zone growth outlook, but said the inflation situation had improved significantly, including upside risks. She also said a larger half-percentage point rate cut had been debated, with Council of Governors (GC) members voting unanimously to do so.
Meanwhile, new forecasts from ECB staff show headline inflation averaging just above target at 2.1% in 2025, while higher price increases were expected at the start of the year, suggesting inflation could fall below target later this year.
On Friday, Austrian central bank president Robert Holzmann – widely considered the ECB’s hawk and the only Governing Council member to vote in favor of keeping rates on hold rather than cutting them in June – Members – told reporters there was no danger of cutting interest rates, a shift that was underlined on Friday.
Where is neutrality?
Holzman also said the market is “similar to the central bank’s assessment” that interest rates will fall to a neutral level (when monetary policy strikes a balance between promoting and restricting growth) of around 2% next year.
On Thursday, the European Central Bank cut its deposit rate, its key interest rate, to 3%.
The composition of the neutral rate has been a point of contention in recent months, with Lagarde saying on Thursday that while the issue was not discussed at the December meeting, staff believed the neutral rate would be between 1.75% and 2.5%. .
Another question facing market participants is whether the ECB will cut interest rates below neutral if inflation cools further and growth prospects worsen. floating Presented by Francois Villeroy de Galhau, President of the Bank of France.
This week’s news broadly confirmed existing market bets on the European Central Bank’s plans to cut interest rates in 2025.
According to LSEG data, money markets continue to price in expectations that the European Central Bank’s key interest rate will fall to 1.75% by September next year, and will keep interest rates unchanged after that.
But some analysts say there is now support for a deeper rate cut.
Economists at Deutsche Bank said in a note on Friday that the European Central Bank will implement interest rates below neutral in 2025 given the trend of weak growth and below-target inflation.
They added that their baseline outlook was for rates to be 1.5% by the end of 2025 through a quarter-percentage point cut, but a change of half a percentage point was still possible.
Dean Turner, chief euro zone and UK economist at UBS Global Wealth Management, stopped forecasting 2% growth in June but said risks now “lean towards the ECB having to do more.” measures to support the economy, not fewer measures.” 2025” — could mean further cuts later this year rather than steep cuts earlier.
However, stubborn core inflation will continue to prompt the ECB to be cautious next year, Kamil Koval, senior economist at Moody’s Analytics, said in a note.
“We believe that after March, the battle over the extent of interest rate cuts will officially begin. We did not cut interest rates in April, and the last rate cut was in June, with interest rates remaining at 2.25%,” Koval said.
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