If what’s going up must come down, the immediate question on the minds of many in Europe is when will interest rates start falling? For several months rates have been set at the highest levels in the history of the European Central Bank.
Investors are betting that the central bank will cut rates soon – possibly in April. Traders believe rates should come down because inflation has slowed significantly – it is below 3 percent since October – and the region’s economy remains weak. By the end of the year, the central bank will cut rates by more than 1 percent, or by between five and six quarters of a percent in trading in financial markets.
However, policymakers are trying to pull market opinion in the other direction and delay expectations of a rate cut. Many of the central bank’s governing councils are wary of declaring victory over inflation too soon, lest it exceed the bank’s 2 percent target.
The European Central Bank stuck to this view on Thursday. It kept interest rates steady, leaving the deposit rate at 4 per cent, where it has been since September.
Bank President Christine Lagarde said Thursday that rates are at a level that “if maintained over a sufficiently long period, would make a significant contribution to getting inflation back to 2 percent in a “timely manner.”
He said the region needed to “further ahead” in the disinflation process before the Bank could be confident that inflation would remain on target.
Not now, but maybe in the summer
Recently there has been a change in the central bank. In December, Ms Lagarde said rate cuts had not been discussed and stressed the need to remain vigilant about inflation. But the new year brought some changes. And last week, Ms. Lagarde said in an interview with Bloomberg News that it was There is a possibility that rates may go down in summer,
Asked again about this at a news conference in Frankfurt on Thursday, Ms. Lagarde said the 26-member Governing Council still agreed that “it is too early to discuss a rate cut.” Policymakers will take their decisions based on incoming economic data, he said, rather than following a calendar, in what appears to be an effort to bet on a rate cut.
Still, she said, “I generally stand by my comments.”
It’s a comment that traders have understood, and they are now strongly expecting a rate cut at the Bank’s June meeting, while stakes for April have increased.
Central banks will have to choose their words carefully to guide the markets because it matters what investors think. If traders start anticipating lower interest rates, they could move the market in that direction and cause the central bank to ease financial conditions sooner than expected. This could potentially undermine efforts to rein in the economy and slow inflation. This began to happen late last year, when the Federal Reserve signaled it would cut rates this year, sending markets reeling in the United States and internationally.
delay in expectations
Policymakers have tried to delay expectations of a rate cut until at least the summer, arguing they won’t have the data they need, particularly on wage growth, until they meet in June.
“The ECB will err on the side of caution because, having underestimated its strength before, they are nervous about being wrong again on inflation,” said Oliver Rakau, chief German economist at Oxford Economics.
Meanwhile, those who say inflation will remain low are confident that the economy will not suffer any further major shocks. Attacks on commercial vessels in the Red Sea have sent shipping prices soaring and analysts warn it could lead to another surge in inflation if the disruption continues for a longer period of time and increases in costs are passed on to consumers.
as soon as possible?
On the other hand, data shows that inflation is falling faster than the central bank had predicted. Headline inflation rose in December as some government support measures ended, but could fall below 2 percent by autumn, according to economists at Berenberg Bank.
The economy of the region is also weak, not very hot. Germany, the bloc’s biggest economy, is sluggish, with data showing it shrank 0.3 percent last year. Separate data published this week showed demand for loans from businesses and households continued to fall across the euro zone.
But according to Frederic Ducrozet, head of macroeconomic research at Pictet Wealth Management, it is possible to view this situation somewhat positively. “It could have been much, much worse,” he said, adding that, for example, the recession in Germany could have been much deeper. “Inflation was a disaster,” he said. “It’s not under control but is going in the right direction.”
He expects the central bank to start lowering rates in June and cut them by a full percentage point overall by the end of the year. Other economists, including Goldman Sachs and Deutsche Bank, expect rate cuts to begin in April.
Although there is debate over whether and how fast rates will go down, most economists agree that ultralow rates are a thing of the past.
“The very low rates we saw before the pandemic are unlikely to return, because there is a much greater need to borrow money to invest, especially in renewable energy and new technologies,” Mr. Rackow of Oxford Economics said. In.