Officials from the European Central Bank are sticking to their intentions to drop interest rates several times this year, despite the fact that rising US inflation is delaying the US Federal Reserve’s shift to a looser monetary policy and Middle East tensions are keeping oil prices high.

After stubbornly strong U.S. price rise hampered the Fed’s plan to start lowering borrowing costs, which had been considered as the starting pistol for other central banks, investors are reevaluating what they had anticipated to be a global easing cycle.

Although she has been cautious to leave open its choices for what comes next, ECB President Christine Lagarde has made clear indications that the euro zone’s central bank is still expected to start lowering its deposit rate from a record-high 4% in June.

More specifically, almost all of her counterparts from the 20 national central banks that make up the currency union have stated that they anticipate additional rate cuts when the euro zone’s inflation gradually drops to the ECB’s target of 2% by the end of the following year.

Everyone has emphasised that the incoming statistics, particularly regarding wages, profitability, and productivity, will serve as the basis for the ECB’s choices.

The head of Estonia’s central bank, Madis Muller, told Reuters last week that it is reasonable to foresee a few additional rate decreases after June by the end of the year, provided economic developments meet our forecasts.

It has been stated that Klaas Knot, the governor of the Dutch central bank, who is known for his hawkish views, is “not uncomortable” with three cuts in 2024.

Friday’s closing price of US stocks was uneven, with the tech-heavy Nasdaq experiencing its largest weekly loss since October 2022.

More than three moves might be made, according to Gediminas Simkus of Lithuania, and Joachim Nagel of Germany described a “cautious gliding flight”.

According to Francois Villeroy de Galhau, the governor of the French central bank, the most recent events in the Middle East and the United States were largely viewed as a cause for increased caution rather than as a significant shift in the situation within the euro zone.

With the exception of services, all categories of inflation in the euro zone have decreased.

“I think all the boxes have been ticked for them to start cutting in June and then I have a cut every quarter with a risk of a further one in October,” Frederik Ducrozet, head of macroeconomic research at Pictet Wealth Management, said.

Despite this, some investors are starting to question the ECB’s commitment, as money markets are no longer fully pricing in three cuts by December.

Traders speculate that in order to stop the euro from getting weaker, the ECB would eventually have to follow the Fed.

In a letter, Morgan Stanley economists stated, “The FX-inflation channel is what gives us cause for concern in Europe versus the more aggressive (rate-cutting) path we had previously.”

On the whole, nevertheless, policymakers were satisfied with how the single currency behaved.

“Forex markets have been very calm so far,” Croatian Governor Boris Vujcic stated last week at a Washington event.

Furthermore, his Italian colleague Fabio Panetta underlined that tightening financing conditions are usually the outcome of rising bond yields and commodities prices offsetting the relaxing effect of a weaker euro.

The majority of governors emphasised that a different strategy was necessary because the euro zone’s economy was significantly worse than the US economy.

The head of the Belgian central bank and ECB rate-setter Pierre Wunsch declared that “the U.S. and euro zone economies have decoupled.” “The gap between the Fed’s and the ECB’s policy rates is not new and may widen.”

Some even went farther.

Villeroy, a prominent member of the Governing Council from France, projected that the European Central Bank would keep imposing economic restrictions as long as its deposit rate stayed over 2.5% or even 2%.

Mario Centeno of Portugal agreed with him, emphasising that the ECB was not in a rush to reach that stage.

Centeno told Reuters, “I don’t know anybody who says the neutral rate is above 3%.” “How quickly shall we arrive there? We still have time.

One persistent source of worry was the euro zone’s services inflation, which has been driven higher by pay increases.

Isabel Schnabel, a board member of the European Central Bank, stated at an event that “in an alternative scenario, productivity growth would remain depressed over the projection horizon and demand for less interest-rate sensitive services could remain sufficiently strong.”

(Adapted from MarketScreener.com)

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