ECB rates ready for 25bp cut as growth risks rise

2024.09.11 08:45

Investing.com – After a July pause, the ECB will likely lower interest rates by another 25 basis points on September 12, but unanimity is not guaranteed. While doves are increasingly concerned about growth, hawks continue to emphasize the need for further reassurances before committing to more rate cuts. So, let’s take stock of the situation and see what analysts expect from the upcoming ECB meeting.

Annalisa Piazza, Fixed Income Research Analyst, MFS Investment Management After holding its position in the July meeting and considering signs of moderation in the real economy, we expect the ECB to implement a 25 bp cut in its September meeting. This is justified by updated projections that will likely confirm a return to target inflation levels by the second half of 2025. The cut is widely anticipated and priced in.

Currently, markets are pricing around 2.25% with a gradual rate-cutting cycle as the baseline. Therefore, this week’s decision is unlikely to lead to major market moves unless the ECB hints at a faster pace of cuts in the short term (which is quite unlikely in the current situation). Instead, it’s more likely that the ECB will maintain a data-driven approach, confirming that further evidence of a decline in core inflation is needed before declaring victory.

There are two factors to watch during the press conference. The first is how the ECB assesses the further downside risks to growth (already clearly emerged in the July meeting minutes), and secondly, how firm the positions of the more “hawkish” members remain (Schnabel does not seem to have changed her mind).

With the clear increase in risks to growth, there’s an additional element of disinflation driven by demand that will need to be considered in the future. For how long is the ECB willing to maintain a distinctly restrictive approach, despite growth not meeting the baseline objective of a solid recovery driven by demand? We suspect that September is too early to abandon the data-dependency mantra. October (if inflation in the services sector corrects the August distortions) could be a good time to acknowledge that moving to less rigid positions is necessary to avoid the risk of entering a medium-term disinflationary spiral. The Fed’s communication in September will also be crucial (despite the ECB reiterating its independence from other central banks’ decisions).

Tomasz Wieladek, Chief European Economist, T. Rowe Price

The ECB will cut the deposit rate by 25 basis points this week. This is widely expected and will not surprise financial markets or anyone who followed the ECB’s communication during the summer. The recent weakness in economic growth surveys and the decline in inflation support the decision to cut by 25 basis points at this meeting.

The big question that investors and observers are asking is whether the ECB will provide any hints about the future path of monetary policy. Currently, financial markets have priced in significant monetary easing. Markets believe the ECB will move from a quarterly rate-cutting pace in 2024 to a meeting-by-meeting pace in 2025. Economists also oscillate between these two views. Therefore, financial markets and ECB watchers will carefully examine the statement and the press conference for any clues about what the ECB plans to do in the future.

Data remain volatile. Consequently, we believe the ECB will highlight that its decisions will continue to depend on their trends. We think President Lagarde will emphasize that monetary policy remains dependent on both data and forecasts. Although some survey indicators show that the economy is starting to contract in some sectors, such as manufacturing, it is holding up overall.

At the same time, HICP services inflation has not fallen below 4% since November. The labor market, the main driver of services inflation, remains tight. Negotiated wages in the Eurozone are likely to rise above 4% again in the third quarter and remain at these levels until mid-2025. These volatile data streams will lead the ECB to continue to be cautious in the future. A quarterly cut pace remains the most likely outcome.

Steven Bell, Chief Economist EMEA at Columbia Threadneedle Investments

There is no doubt that central banks are in “rate-cut mode.” The ECB is expected to cut rates this week, the Fed will likely start its easing cycle next week, and the BoE will decide whether to cut again at the end of the month or postpone it to the next meeting. The issue, however, is not so much the direction as the speed and magnitude. By the end of the year, the market expects a total of 45 basis points in cuts for the BoE, 62 basis points for the ECB, and as much as 113 basis points for the Fed. By September 2025, markets anticipate official rates just above 3.5% in the UK, 3% in the US, and just 2% in the Eurozone. All of this translates into substantial cuts and raises the question of whether markets might be disappointed.

In Europe, growth has been anaemic, with recent data showing a sharp decline in wage inflation and overall inflation close to the 2% target. The European Commission is pressuring governments to tighten fiscal policy. In this context, expectations for cuts seem reasonable.

Gilles Moëc, AXA Group Chief Economist and Head of AXA IM Research

The ECB needs to make a decision before the Fed. While we expect the Fed to be quite clear about the general “direction of travel” after its first hike, although data-dependent, we do not believe that the European Central Bank (ECB) will offer much clarity on this front after the second 25 basis point cut on Thursday.

Although there is little doubt about this Thursday’s cut, we expect the market to focus on any hints of “forward guidance” on the next steps from Christine Lagarde. In our view, the President will keep her cards close to her chest since the debate within the Governing Council is still in full swing. However, the latest data flow favours the doves: the details of the Eurozone national accounts for the second quarter confirm that firms are increasingly offsetting the labor cost push by reducing their margins.

David Chappell, Senior Fixed Income Portfolio Manager at Columbia Threadneedle Investments

Recently, the ECB has been cautious, trying to reduce market expectations for consecutive rate cuts in September and October. The current normalisation path envisages a pace of cuts every two meetings. However, the size of the first rate cut by the Federal Reserve, expected on September 18, will influence the ECB’s discussion during the October meeting, regardless of the message accompanying the second cut expected this week.

Alessandro Tentori, Chief Investment Officer of AXA IM Italia

Regarding a potential new cut by the European Central Bank expected this week, it is worth noting that a 25 basis point cut is already fully priced in by the market. However, among the ECB’s Governing Council members, there are some hawks looking for further reassurances before committing to a rate cut, so unanimity is uncertain. Additionally, Chief Economist Philip Lane recently stated that the return to the inflation target is not yet guaranteed, and monetary policy may need to remain in restrictive territory.

After the expected cuts this year and next, one might ask whether monetary policy will remain restrictive or shift towards a more neutral stance. In our view, the ECB’s Governing Council aims for a neutral monetary policy – which neither stimulates nor hinders economic growth – throughout 2025. The challenge is that neither market participants nor central bankers know exactly where the neutral interest rate currently lies. The consensus suggests it is above previous years’ levels, but its precise position – whether 2% or more – remains unknown. To determine this, a trial-and-error approach will be necessary, lowering rates and observing data reactions to assess the required extent of monetary easing.

At the end of the summer, the ECB will begin evaluating a strategy review, with an in-depth debate on issues that go beyond rate hikes or cuts and could significantly impact monetary policy. This debate will focus on two fundamental pillars: the potential definition of rules for future debt purchase programs and the design of action plans against major inflationary shocks. These elements are crucial and represent essential analysis for the future. The European Central Bank must establish rules for its debt purchase plans, whose use, according to recent studies, has had side effects. The associated costs and benefits must be better understood to define a framework for when to use them. This does not mean abandoning these measures as part of monetary policy, but they must be carefully evaluated.

Alex Everett, investment manager at abrdn

After 2021 central banks adopted aggressive tightening, and it worked: inflation is well below its peak, and financial conditions are restrictive. Now it’s time to normalise. For us, a global recession remains unlikely, so excessive rate easing is not necessary. The neutral rate for the United States is around 3%, 2% in the European Union, while the United Kingdom is probably closer to the US than the EU.

Some central banks were too slow to move during the rise, and the risk is that they are too hesitant during the fall.

The ECB committed to cutting interest rates in June and then seemed to regret the decision. The BoE made an uncomfortable cut in August, with four out of nine votes in favour of a hold.

For the ECB, growth and wages have surprised positively this year. That said, wage pressures are easing, and the slowdown in growth in the second half of the year should make the provision of cuts less debated for committee members.

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