ECB to keep cutting quarterly despite weaker economy, poll shows

THE European Central Bank won’t react to a weakening eurozone economy by lowering interest rates more rapidly, according to a survey of analysts.

Respondents expect the ECB to follow June’s initial cut in the deposit rate with another reduction next week, maintaining that quarterly pace until reaching 2.5 per cent next September. They see borrowing costs remaining at that level through 2026.

Officials gathering in Frankfurt are faced with a problematic blend of softening economic expansion and stubborn underlying price pressures. The biggest growth laggard is Germany, the region’s biggest economy, where manufacturers have been struggling for more than a year and consumers are proving hesitant to spend.

Recent fragility within the 20-nation bloc “enhances arguments for more accommodative monetary policy,” said Dennis Shen, an economist at Scope Ratings. But “inflation remains anything but defeated,” making the ECB cautious.

Data published on Friday (Sep 6) showed the economy expanded less than initially reported in the second quarter. At the same time, wage growth also slowed in the period.

Most economists don’t expect President Christine Lagarde to offer clear signals on where rates are headed – in line with the ECB’s emphasis on assessing incoming data. Given divergent views inside the Governing Council on the economy, she may keep all options open. 

“Lagarde’s main challenge is to present a policy outlook that’s coherent despite differences in views, which can be accomplished by continuing emphasising a data-dependent approach and no pre-commitment to any rate path,” said SEB strategist Jussi Hiljanen. 

While more hawkish policymakers including Bundesbank President Joachim Nagel and Executive Board member Isabel Schnabel have warned about lingering inflation risks, others have said the ECB mustn’t restrain the economy for longer than necessary. 

Survey respondents expect the central bank to trim its 2024 growth outlook, which stood at 0.9 per cent in June. It’s likely to keep the rest of its forecast unchanged. 

SEE ALSO

Eurozone economy grew less than expected in second quarter

ECB cuts to get trickier once key interest rate approaches 3%

People familiar with the debate have said policymaking will get harder once borrowing costs approach 3 per cent – the upper end of a range of estimates for where interest rates neither restrict nor support the economy. Schnabel said last week that officials must get more wary near this so-called neutral rate, to avoid hindering inflation’s return to 2 per cent. 

Most economists expect the actual threshold to be lower than 3 per cent, with a majority estimating the neutral rate to be 2.25 per cent or 2.5 per cent. 

That doesn’t mean setting policy will be simple in the nearer term, according to TD Securities analyst James Rossiter.

“With services inflation at a 10-month high and the unemployment rate at a record low, there are clear pipeline price pressures,” he said. “At the same time, growth is softening, with risks clearly tilted to the downside. A September cut appears to be a done deal, but the profile beyond will be up for heated debate in the months ahead.”

Some also highlight Lagarde’s challenge to not heighten market expectations that a reduction in October is a 50/50 bet.

“The ECB’s confidence in the inflation outlook will likely have grown, especially given the signs of a softening labour market,” said Oliver Rakau, an economist at Oxford Economics. “But the Council will likely try to add some hawkish tones in order to retain optionality to not cut in October given market pricing.” BLOOMBERG