What seemed unlikely just a few weeks ago is now widely expected. The European Central Bank (ECB) is anticipated to accelerate its easing cycle by cutting interest rates by another 25 basis points (bps) on Thursday, following a similar move in September.
Key points:
– The Governing Council is expected to lower rates by 25 bps again.
– The deposit rate is projected to drop to 3.25%.
– No new ECB projections will be released.
– Attention will focus on comments from President Christine Lagarde.
– Clear forward guidance on interest rates is unlikely.
– Lagarde is expected to emphasize data dependency.
– Another rate cut is anticipated in December and then quarterly cuts in 2025.
Unlike the Federal Reserve in the U.S., which has a dual mandate to ensure both price stability and promote employment, the ECB’s sole goal is to maintain inflation at 2%. However, there is a growing sense that policymakers have overly focused on controlling price pressures, neglecting the ongoing weakness of the Eurozone economy.
Eurozone economy struggles to gain momentum
With no recent economic data from the bloc, investors are paying close attention to Purchasing Managers’ Index (PMI) figures to assess the current state and outlook of the economy — which do not look promising. In early September, even before the last ECB meeting, the GDP growth for Q2 was revised downward, indicating a slowdown and a quarterly growth of just 0.2%. The composite PMI, closely watched by investors, has been declining almost every month since June, and in September, it fell below the critical 50-point threshold for the first time since January.
Other recent hard data does not paint a better picture. Evidence is mounting that the Eurozone economy is losing momentum before it had a chance to fully recover, with German factory orders recording their biggest drop since January. The ECB revised down its GDP forecast in September, and the current projection of 0.8% growth in 2024 now seems optimistic. Hopes of new stimulus measures in China have provided some optimism, but the balance of risks to growth remains tilted to the downside.
Dovish signals from the ECB
The worsening economic outlook has not gone unnoticed by the ECB. Several members of the Governing Council have hinted at a rate cut in October, with French central bank chief Francois Villeroy de Galhau outright stating that the ECB is likely to lower rates this month.
Even President Christine Lagarde, who surprised markets in September with hawkish remarks focusing on inflationary concerns, has hinted at a rate cut. She noted that “recent developments strengthen the Governing Council’s confidence that inflation will return to target in due time” and that this would be taken into account at the October meeting on monetary policy.
With inflation currently below the 2% target and wage growth in the bloc slowing, the argument for shifting the ECB’s communication to focus on economic activity has gained strength. Nevertheless, we expect Lagarde to continue reiterating that the ECB remains data-dependent and makes decisions on a meeting-by-meeting basis. Clear guidance on the timeline for further rate cuts would be surprising and would undoubtedly cause volatility in both interest rate and currency markets.
Another ECB rate cut likely in December
Markets are almost fully pricing in a 25 bps rate cut this week, meaning that the decision itself is unlikely to have a significant impact on the euro. The focus will instead be on the tone of the ECB’s communications. Of particular interest will be comments on the state of the Eurozone economy and growth outlook, as any increase in concerns among policymakers may suggest the ECB is ready to cut rates faster than currently anticipated by markets.
A third consecutive 25 bps cut at the December meeting seems highly likely, and this is also nearly fully priced into swap contracts. The main uncertainty revolves around the pace of cuts in 2025. We maintain our view that rates will be lowered quarterly. Any suggestions from the ECB that a more aggressive easing pace might be necessary to curb the economic slowdown in the bloc could weigh on the euro this week.
The ECB’s policy decision will be announced on Thursday (October 17) at 2:15 pm, followed by President Lagarde’s press conference 30 minutes later.
Author: Roman Ziruk; Matthew Ryan, CFA – Ebury analysts
