William M. Martin, head of the Fed for 20 years, used to say that central bankers are the kind of people who take the punch away just when the party is getting going. Christine Lagarde, president of the European Central Bank, has a more pleasant-sounding task ahead of her on Thursday: bringing back another pitcher so that the party doesn’t end. Or, in other words, lowering interest rates again so that the European economy can breathe a breath of fresh air while inflation is still at a standstill.
If there are no last-minute surprises, the ECB will reduce rates by 25 basis points, its second cut of the year after the one in June. It is thus returning to a path of easing monetary policy after the pause in July, which was intended to check that inflation had not returned to the upside, and to have more data before the next step. The new statistics show that nothing has broken down. On the contrary: wages slowed more sharply than expected (they rose by 3.55% in the second quarter, compared to 4.74% in the first three months) and inflation rose from 2.8% to 2.2%. Only inflation in services (4.2% in August, compared to 4% in July) remains a source of bad news.
For Lorenzo Codogno, former Italian Treasury Secretary, this flood of positive data should not push Frankfurt to move faster in the de-escalation of rates. “The ECB does not need to panic or signal any substantial change in its stance. We must act with caution and not rush into a risky acceleration. My base scenario remains a 25 basis point cut on both 12 September and 12 December,” he notes. In the longer term, he predicts a single 25 basis point cut per quarter.
Codogno’s fear of a too rapid easing is justified by recent changes in market sentiment, which is increasingly in favour of cuts, as Michael Krautzberger of Allianz Global Investors explains. “Until recently, the market consensus was that the next cut after September would take place in December. [lo que supondría que el BCE se quedaría de brazos cruzados en la reunión de octubre]. However, with the US labour market weakening and speculation mounting about a possible 50 basis point cut by the Federal Reserve, a move in October cannot be ruled out,” he said.
Futures markets support this view: they are discounting three cuts by the end of the year. And indicators such as the Euribor, which usually accompany the rise and fall of ECB rates, have already given signs that they trust that the ECB will continue to cut the price of money sharply: this Monday it broke the psychological barrier of 3% in daily rate – this Wednesday it reached 2.96% – something that has not happened for almost two years, making the instalments cheaper for those with variable rate mortgages and facilitating access to financing for those looking to take out a loan now. The effect has also been noted in Treasury bills, whose yield has been reduced in the latest debt auctions, already below 3% at 12 months.
Good news for the euro and oil
The major central banks are eyeing each other, because what one does has a certain impact on the other’s territory, by altering the currency market. The euro, by strengthening against the dollar (it is trading at 1.10 greenbacks), has moved in the last year in a direction that supports the reduction of inflation. Europe pays for gas and oil in dollars, so the rise of the single currency is reducing what is paid for imports, leaving in the pockets of energy buyers money that previously went to sellers. Added to this is the fall in the price of a barrel of oil (Brent is trading at around 70 dollars, 22% less than a year ago).
As ING points out, the cycle of cuts is somewhat atypical, because in the past they have always been triggered by recessions or crises. But that does not mean that a period of prosperity can be taken for granted. “Europe is not in recession, but it is in a low-growth environment. And, given the weaknesses elsewhere, it is difficult to see how Europe will be able to recover in the coming months. Here too we must prepare for a soft landing… and we have not flown as high as the United States,” says Carsten Brzeski, head of Macro at ING.
In this still uncertain scenario, Goldman Sachs also predicts cuts in the price of money in September and December – which would probably mean aligning the monetary choreography with the Fed’s roadmap, which plans three rate cuts by the end of the year. However, given the weakness of activity and the moderation of wages, it estimates that the ECB will step on the accelerator next year: it now forecasts consecutive cuts of 25 basis points in 2025 until reaching 2% in July, while previously it only predicted one movement per quarter until reaching 2.25% in December.
Visibility on the ECB’s next moves appears limited. The US investment bank does not expect the Governing Council to change its communication: it believes it will maintain its data-dependent stance and meeting-by-meeting approach. “Don’t expect Lagarde to comment specifically on the likelihood of a cut in October,” she warns. “Lagarde is unlikely to give a signal on the size and timing of the next move,” agrees Nadia Gharbi, European economist at Pictet.
This is the level of opacity central bankers maintain, and one that former Fed chairman Alan Greenspan used to show off. “If I seem particularly clear and transparent to you, it is likely that you have not understood what I meant,” he would repeat.
Changes
Starting from this meeting, the ECB will adjust two of the three interest rates it sets every six weeks as part of its efforts to maintain price stability in the euro area. On Thursday, 35 basis points will be cut from the MRO (main refinancing operations) and the marginal lending facility rate, which is the rate at which banks can obtain overnight funding from the ECB.
The bank’s aim with this decision is to reduce volatility in the money markets and provide more stability as the excess liquidity that has been present for so many years is withdrawn. This means that the MRO will be, once the change is consumed, at 3.90%, from the current 4.25%, to which will be added the rate cut that the ECB is expected to make, of 25 basis points.
The change, announced in March but effective this month, will not affect the deposit facility, the reference interest rate for the ECB, which determines the interest that entities receive, or pay if negative, on their overnight deposits at the ECB, and is now at 3.75%.
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