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ECB Cuts Rates Again as Inflation Fades and Economy Stumbles

12 Sep 2024

The European Central Bank lowered interest rates for the second time this year with inflation receding toward 2% and concerns about the economy building.

The key deposit rate was cut by 25 basis points to 3.5% — as all analysts polled by Bloomberg predicted. The ECB reiterated that it can’t commit to a specific course for borrowing costs.

“We shall remain data-dependent,” ECB President Christine Lagarde told reporters in Frankfurt, adding that Thursday’s decision was unanimous. “That is particularly justified in view of the uncertainty that abounds.”

“A declining path is not pre-determined,” she said. “Neither in terms of sequence, nor in terms of volume.”

Central Bank Watch | Change in borrowing costs this year

Traders dialed back wagers on further easing a touch, now predicting 36 basis points more by year-end. That means an additional quarter-point cut is fully priced and there’s a less than 50% chance of another such move.

Like its global peers, the ECB is getting more confident that consumer-price growth is returning to target following its historic spike. The euro zone’s 20-nation economy, meanwhile, is losing momentum. Households are failing to support the rebound that began earlier in the year and manufacturers remain in the doldrums due to soft demand from outside the single currency area.

That weakness prompted the ECB to trim its forecasts for gross domestic product in 2024, 2025 and 2026 — now seeing expansion this year of 0.8% compared with 0.9% in the last round of quarterly projections. The inflation outlook was broadly unchanged.

ECB Cuts Growth Forecasts Through 2026 | Inflation estimates largely in line with earlier projections

“The recovery is facing some headwinds,” Lagarde said, stressing that risks remain tilted to the downside. “The gradually fading effect of restrictive monetary policy should support consumption and investments.”

On inflation, she said advances in wages will remain high and volatile, though overall growth in labor costs is moderating.

Also Thursday, two other interest rates at which banks can borrow money from the ECB were reduced by 60 basis points each as part of a long-term strategic shift that will have few immediate consequences.

The ECB’s decisions arrive less than a week before the Federal Reserve is widely tipped to begin loosening US monetary policy. The Bank of England, which has reduced rates once so far, meets a day later.

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The ECB’s announcement follows a plunge in inflation to 2.2% in August and figures showing the rapid wage increases driving price gains — particularly in the services sector — are slowing. Rises in compensation per employee — a comprehensive measure of workers’ pay — eased to 4.3% in the second quarter from 4.8% in the first.

“Based on the Governing Council’s updated assessment of the inflation outlook, the dynamics of underlying inflation and the strength of monetary-policy transmission, it is now appropriate to take another step in moderating the degree of monetary-policy restriction,” the ECB said in a statement.

The danger isn’t over, however: Service-price growth actually quickened to 4.2% in August. While it was probably nudged higher by the Paris Olympics, some officials aren’t ready to declare victory over inflation just yet.

Euro-Area Inflation Slowed But With Sticky Services Prices

Executive Board member Isabel Schnabel said rate cuts can’t be mechanical and must “rest on data and analysis.” Chief Economist Philip Lane said the return to 2% isn’t yet “secured,” though he cautioned that high borrowing costs shouldn’t choke the economy.

Several of his colleagues share that fear. Portugal’s Mario Centeno frets about a return to the pre-Covid days of below-target inflation. One of the last data releases before this week’s meeting saw the increase in second-quarter GDP revised down to 0.2% from 0.3%.

Europe’s sluggish growth could persist long into the future, former ECB chief Mario Draghi warned this week. In a long-awaited report, he presented a host of remedies, though his costlier recommendations were immediately shot down by Germany.

For now, the outlook for interest rates, at least, looks somewhat predictable. Analysts in a Bloomberg poll see cuts each quarter until September 2025. Doubts are creeping in, however, due to the weak economy. Goldman Sachs now forecasts reductions at every meeting next year until the deposit rate reaches 2% in July.

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