The ECB will finally lower rates today: what else to expect from Lagarde’s speech

In the studied codes that guide the actions of central banks, allergic to surprises and plot twists, the most unpredictable and groundbreaking thing would be if the ECB did not lower interest rates today. Everything is ready in Frankfurt for the Governing Council of the institution to decide on a cut in the price of money in the euro zone that will finally give a break to companies and households after a sudden rate increase to 4.5%, maximum 2001. They have been there without moving since September of last year, but the ECB believes the time has come for a reduction, the first in eight years, of 25 basis points.

The ECB has been directing its discourse towards this cut in recent months and the biggest surprise today is that it did not do so. But he has also been warning that today’s decision does not have to be the beginning of a predictable path of lowering the price of money. We will have to decipher Lagarde’s speech this Thursday in detail to try to know what will happen in the coming months with the cost of credit for companies and households in the euro zone.

The march of inflation

The evolution of prices is the maxim that guides the actions of the ECB. The institution owes its mandate to achieving price stability with an inflation rate for the euro zone of 2% that is not punctual, but uniform and stable. Inflation has already eased noticeably from the highs above 10% in the autumn of 2022. In May of this year it stood at a rate of 2.6% year-on-year, which, however, was higher than expected and advanced two tenths compared to the last month. The 2% objective is still being resisted and there are signs in the services sector that do not allow inflation to be considered definitively defeated.

Prices in the services sector were again the most inflationary, with an increase of 4.1% in May after 3.7% in April. And wages, an indicator that the ECB monitors with special attention, accelerated their increase in the first quarter with an increase of 4.7%, from 4.5% in the previous quarter. The central bank does trust that what remains of inflationary pressures, including wage pressures, will fade throughout 2024, but it will predictably opt for caution before advancing further interest rate cuts.

Rubén Segura-Cayuela, Bank of America’s chief economist for Europe, maintains that the ECB is moving but slowly. In addition to expecting the 25 basis point cut at today’s meeting, the US bank foresees “little change in the ECB’s guidance in the press release, basically recognizing the first move, the dependence on data and the need to proceed cautiously. “It is likely that the press conference will indicate that there is no pre-established path.”

The next movements, in the air

Bank of America also expects Lagarde to argue the need to have more information in July to decide the next move in September, the likely time for a second cut. In April, Lagarde already defended the importance of having more data to make a decision in June. He then prepared the ground for today’s cut, despite the fact that the most recent indicators—May CPI higher than expected and acceleration in wages—have not contributed to supporting the idea of ​​the defeat of inflation. “This evolution of inflation calls into question future cuts. Based on forward-looking wage and inflation indicators, I believe we will experience additional disinflation in the second half of 2024. This will allow the ECB to cut a total of three times this year. However, the risks increase that the ECB will only cut twice this year,” explains Tomasz Wieladek, Chief Economist at T. Rowe Price.

Analysts predict between two and three rate cuts in the euro zone this year. The market today awaits new clues about upcoming rate cuts, but the latest inflation data suggests that the ECB will not want to commit to a more or less concrete path and will limit itself to its well-known speech of going meeting by meeting. . To decide based on the data at the moment. At the moment, investors give only a 12% chance of a second cut in July, an option already ruled out by members of the hardline ECB; a 60% chance of a cut in September and a 54% chance of a cut in December.

Update of macroeconomic forecasts

Whether these probabilities vary after today’s meeting will also depend on the developments in the revision of the growth and inflation forecasts offered by the ECB each quarter. No major changes are expected compared to what was announced in March, when the central bank presented a significant adjustment to its inflation forecasts: a CPI of 2.3% for this year, compared to the 2.7% advanced in December; 2% in 2025 and 1.9% in 2026. Its growth forecast for this year was in March an increase in GDP of 0.6%, 1.5% in 2025 and 1.6% in 2026 .

At Bank of America they see the possibility of a small upward revision of inflation in the short term, without changes in the medium term, which reinforces the message of acting with caution. At Goldman Sachs they point to a slight upward adjustment of one tenth for the CPI this year and next, to 2.4% and 2.1%. And also an upward adjustment of the growth forecast for this year, to 0.7%. Not in vain, just as inflation continues to give up, growth is also being somewhat better than expected. In the first quarter, the GDP of the euro zone grew by 0.3%, allowing the region to leave the technical recession behind, after the contraction of 0.1% in the last two quarters of 2023.

“Recently released wage data, which surprised to the upside, speaks against a cut in July, but weak credit growth and weak recovery argue in its favor. We believe that monetary policy has been too restrictive for too long,” defends Karsten Junius, chief economist at J. Safra Sarasin Sustainable AM, who foresees new rate cuts in September, October and December.

Cut rates before the Fed

After the pandemic, and faced with the unstoppable price spiral, the Fed raised rates before the ECB. Jerome Powell made his move in March 2022 and the ECB did not begin the wave of rate hikes until July of that year. But when it comes to cutting them, Christine Lagarde is going to get ahead of her American counterpart. The US economy still shows signs of great strength, with inflation higher than that of Europe, which makes it difficult to open your hand with a cut in the price of money.

Lagarde insists that the ECB makes its decisions independently of the Fed, she will reaffirm this when assessing what happens in the United States, although she will inevitably be affected by what the most powerful central bank in the world does. The first rate cut in the United States is expected in September, although investors give it a modest probability of 60%. If the reduction did not come then, the ECB would have more difficulties in lowering rates again without also assuming the impact of a weaker euro against the dollar. The gap in the price of money against the United States would widen, depreciating the European currency and making imports in the euro zone more expensive, especially raw materials. Again, another inflationary risk for the headache of the ECB and the citizens.

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