ECB poised to cut interest rates in divergence from Fed and Bank of England
The European Central Bank (ECB) is almost certain to become the first major central bank to start cutting interest rates next week, with two key officials saying it is time to lower borrowing costs.
Traders are highly confident that the ECB will lower its benchmark deposit rate by 25 basis points from a record high of four per cent at its next meeting on 6 June.
Olli Rehn, an ECB governing council member and head of Finland’s central bank, said in a speech on Monday that eurozone inflation was falling in a “sustained way” and “the time is thus ripe in June to ease the monetary policy stance and start cutting rates”.
Inflation in the euro area came in at 2.4 per cent in April, nearing the ECB’s two per cent target. The data for May is due to be released on Friday.
Eurozone inflation has remained below three per cent for the last seven months in a row, despite an uptick in December.
Meanwhile, the ECB’s chief economist Philip Lane told the Financial Times: “Barring major surprises, at this point in time there is enough in what we see to remove the top level of restriction.”
However, he cautioned that the ECB needed to keep rates in a “restrictive zone” into 2025 to ensure inflation keeps falling.
“The best way to frame the debate this year is that we still need to be restrictive all year long,” Lane said. “But within the zone of restrictiveness we can move down somewhat.”
His comments came after ECB president Christine Lagarde said last week there was a “strong likelihood” of a June cut if inflation looked set to remain under control in the medium term.
The ECB started hiking interest rates in July 2022 in a bid to tame runaway inflation, receiving criticism for being one of the last big central banks to do so.
But now it is widely expected to decouple from the US Federal Reserve, which is considered a trendsetter in Western monetary policy and unlikely to cut rates before the summer.
“A June rate cut by the ECB has been telegraphed for a long time now and any different outcome would be an immense surprise,” Dirk Schumacher, a former ECB economist now head of Europe macro research at French bank Natixis, told Morning Wire
“The ECB has also made clear, credibly so we think, that it is euro area data and the inflation outlook that will dictate any change in the policy stance of the ECB. Whether the Fed would cut or not would only matter to the extent that it would impact the exchange rate and in turn euro area inflation.”
Piet Haines Christiansen, a chief analyst at Danske Bank, added: “While the economic situation has been better than anticipated since the start of the year and inflation more sticky than anticipated, the ECB is widely expected to go ahead [with a cut].”
He said that after next week, his team expected the ECB to take a “pause” from cutting rates until the end of the year.
“We are the most hawkish on the street it seems, so we do not expect this to impact other central banks,” Christiansen said.
“When comparing central banks globally, the Bank of England and ECB stand out as seeing some similarities across the economies, while the US situation is in a much stronger position and thus risks keeping rates higher there than in the euro area and UK.”
Minutes from the Fed’s most recent meeting, released last week, suggested policymakers were still wary of committing to rate cuts, with an unspecified number even saying they were open to raising rates if inflation worsens.
On this side of the Atlantic, the central banks of Switzerland, Sweden, the Czech Republic and Hungary have already cut rates this year in response to easing inflation
The Bank of England is not expected to reduce borrowing costs until the summer at the earliest. Latest data showing inflation fell to 2.3 per cent in April was touted by Rishi Sunak last week as he moved to call a general election for 4 July.
However, it came in slightly hotter than the 2.1 per cent economists had expected, with sticky services inflation remaining a worry for rate-setters on Threadneedle Street.