The European Central Bank (ECB) on Thursday confirmed that it has cut interest rates despite stubborn inflationary pressures for the first time since 2019. The central bank cut interest rates to 3.75 percent from 4 percent, where it has been since September 2023.
“Based on an updated assessment of the inflation outlook, the dynamics of underlying inflation, and the strength of monetary policy transmission, it is now appropriate to moderate the degree of monetary policy restriction after nine months of holding rates steady,” the ECB governing council said in a statement.
Inflation declines
Since the governing council meeting in September 2023, inflation has declined by more than 2.5 percentage points. Moreover, the eurozone’s inflation outlook has improved significantly. The statement also added that underlying inflation has eased, signaling an easing in price pressures.
Despite inflation’s recent progress, domestic price pressures remain strong as wage growth rises. Therefore, the ECB expects inflation to remain above target well into next year.
The Eurosystem staff has revised its latest projections for both headline and core inflation up for 2024 and 2025. The staff now see headline inflation averaging 2.5 percent in 2024, 2.2 percent in 2025, and 1.9 percent in 2026. Meanwhile, they expect inflation excluding energy and food to average 2.8 percent in 2024, 2.2 percent in 2025, and 2.0 percent in 2026. In addition, economic growth is expected to rise to 0.9 percent in 2024, 1.4 percent in 2025, and 1.6 percent in 2026.
The governing council reiterated its commitment to ensuring that inflation returns to its 2 percent medium-term target soon. Therefore, the ECB will keep interest rates sufficiently restrictive for as long as necessary to achieve this aim.
“The governing council emphasized a data-dependent, meeting-by-meeting approach, reducing the likelihood of a back-to-back rate cut in July due to insufficient European data before the next meeting. This decision can be termed a “hawkish cut”, stated Gaël Fichan, head of fixed income at Bank Syz.
Key ECB interest rates
The governing council decided to lower the three key ECB interest rates by 25 basis points effective June 12, 2024:
- Interest rates on the main refinancing operations decline to 4.25 percent.
- Interest rates on the marginal lending facility decline to 4.50 percent.
- Interest rates on the deposit facility decline to 3.75 percent.
Read: Bank of Canada lowers key interest rates to 4.75 percent, marking first cut in four years
Market response
In response to the ECB’s interest rate cut, bond yields have slightly increased across maturities without significant weakness in peripheral rates, explained Fichan. The market is now pricing in less than two rate cuts for the remainder of the year, which aligns with expectations of one rate cut per quarter.
“As anticipated, the ECB has left all options on the table, likely to maintain flexibility without providing clear guidance for upcoming meetings. The eurozone economy has rebounded, wage growth remains robust, and inflation appears to have plateaued, albeit potentially temporarily,” added Fichan.
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