Inflation is falling and the economy is weakening. Nevertheless, the European Central Bank prefers to keep its feet still – and leaves key interest rates unchanged. The financial markets do not expect the first reduction until June.
Despite falling inflation and a weakening economy, the European Central Bank (ECB) has not changed key interest rates for the fourth time in a row. As expected, it is leaving the main refinancing rate, at which commercial banks can obtain fresh money from the central bank, at the current level of 4.5 percent, as the ECB Council announced.
The deposit rate that financial institutions receive from the ECB for parking surplus funds, which sets the trend on the financial market, also remains at the record level of 4.00 percent. Economists had expected that the monetary authorities led by their boss Christine Lagarde would not change the key rates again. They had already stayed quiet in October, December and January after ten interest rate increases in a row.
ECB reduces inflation and Economic forecast
According to experts, the focus of today’s interest rate discussions was primarily on the ECB economists’ inflation and economic forecasts. According to their estimates, inflation in the euro area will fall faster than expected in December. The ECB now expects an inflation rate of 2.3 percent for the current year. The central bank had previously assumed 2.7 percent. A rate of 2.0 percent is forecast for 2025.
At the same time, the economic prospects in the currency area of the 20 countries have deteriorated further, it was said. According to the latest ECB forecast, the economy in the euro area will grow by 0.6 (December forecast: 0.8) percent this year. For Lagarde and Co., the combination could be a factor in slightly changing communication to the financial markets and giving cautious indications of a possible change of course.
There has been speculation on the financial markets about interest rate cuts for some time. Around the turn of the year, up to six reductions totaling 1.5 percentage points were still considered possible. However, expectations have fallen significantly and currently suggest around three to four reductions for 2024. The probability at the June meeting is currently estimated at around 84 percent.
Missing wage data and core inflation still at three percent
“With the surprisingly significant decline in euro inflation and the poor economic data, the likelihood of an interest rate cut at the June meeting is increasing,” says Friedrich Heinemann from the ZEW Institute. However, the prerequisite for this is that core inflation also comes even closer to the two percent mark. This inflation, adjusted for energy and food, was still at a good three percent in February.
“Overall, the fight against inflation in the euro area is on the right track. However, this path is not yet over,” emphasizes Ulrich Kater, chief economist at Dekabank. Rate cuts from June remain likely, but the pace could be slower and more cautious than many market participants would like.
The central bank’s line is relatively clear: before the tight monetary policy is relaxed, the council wants to be certain that the decline in inflation observed is permanent. Such statements have been made by numerous high-ranking central bankers in recent weeks. Insiders had also noted that the ECB will not have important data on wage agreements from the euro countries until May.