The vast majority of economists surveyed by Reuters forecast that the European Central Bank (ECB) will cut its deposit rate by 25 basis points on September 12. They also expect another 25 basis point cut in December, which is less than what the markets anticipate.
Sluggish wage growth and August’s 2.2% inflation, the lowest in three years, have enabled the ECB to ease again next week. Since April, analysts have predicted three interest rate reductions this year. Market pricing includes almost four cuts.
Sources close to the discussion say ECB policymakers are divided. They are weighing sluggish economic growth and a potential recession against persistent inflation pressures, which they aim to keep at 2%. This implies that future policy choices may be difficult.
In a Reuters poll conducted between August 30 and September 5, economists’ median predictions indicated a 30% chance of a recession in the next two years. This forecast has remained largely unchanged since the beginning of the year.
64 out of 77 analysts, or nearly 85%, project that the ECB will lower the deposit rate by 25 basis points (bps) next week. They also expect another reduction in December, bringing the rate down to 3.25%.
Eight respondents anticipated three reductions this year, compared to only four who anticipated just one.
According to Luca Mezzomo, head of macroeconomic analysis at Intesa Sanpaolo, “the slowdown in wages and weak economic activity seen in recent weeks increase the likelihood… for another official rate cut on Sept. 12.”
“The European market has once again been dragged down by the U.S. market, beginning to discount rate cuts at every meeting – too much for the gradual approach to the withdrawal of monetary tightening that seems to be the convergence point for the Governing Council.”
CAREFUL APPROACH
Economists suggest taking a cautious approach. They predict that inflation in the common currency bloc will rise slightly by year’s end and remain above the ECB’s 2% target at least until the second half of 2025.
Due in part to Fed Chair Jerome Powell’s indications that rate cuts are imminent and the weaker-than-expected July labor data, markets are pricing in more than 100 basis points of rate cuts from the US Federal Reserve this year. These rate cuts are set to begin this month.
In another Reuters survey, the majority of respondents, who have likewise stayed steady in their stance, projected a 25-basis point rate drop in each of the three meetings that are left this year.
According to poll medians, the ECB would cut the deposit rate three times in 2019. This would lower the rate to 2.50% by the end of 2025. This reduction is significantly less than the market pricing, which is roughly 170 basis points.
“A key assumption is euro zone labor markets will remain relatively tight and wage growth will moderate only at a gradual pace,” said Reinhard Cluse, chief European economist at UBS.
Negotiated pay growth stayed above the levels needed to align with a 2% inflation target. However, it decreased last quarter to 3.55% from 4.74% in Q1.
“We are skeptical about the more front-loaded rate cuts priced for Q4-24 and Q1-25. For the latter to be realized, we think the global economy would have to be weaker and/or euro zone inflation and wage dynamics more benign than our current base case scenario implies,” UBS’ Cluse added.
The poll shows that the GDP of the euro zone expanded by 0.3% in the previous quarter. It will grow by an average of 0.8% this year, 1.3% in 2025, and 1.4% in 2026.
Click here for more news on Banking.