The ECB cuts, but hawkish forecast revisions boost the euro

The ECB cuts the deposit rate by 25bps, as expected, and in line with our own pre-announcement call. More surprising to us were the revisions to the Bank’s macroeconomic projections.

We had thought there was a case for a modest downward revision to the profiles for both growth and inflation. While the former materialised, the latter saw the projected path for core inflation revised up for 2024 and 2025. Granted these changes were marginal, but they were still hawkish, boosting the euro. In any case, we think both sets of projections look overly strong when considering the soft leading economic indicators for the bloc, and a recent slowdown in wage growth.

With this in mind, and given “that the Governing Council is not pre-committing to a particular rate path”, we think risks remain finely balanced between one and two further rate cuts this year.

Looking at the forecasts in more detail, ECB staff see headline inflation averaging 2.5% in 2024, 2.2% in 2025, and 1.9% in 2026, all unchanged from June. That said, higher than expected services inflation prompted staff to upgrade the path for core inflation in this latest set of forecasts. The ECB now sees core price growth falling from 2.9% this year to 2.3% in 2025 and 2.0% in 2026. This looks a little odd to us, especially when set against the Bank’s growth expectations, which were revised down based on weaker-than-expected demand. Bank staff now project that the economy will grow by 0.8% in 2024, rising to 1.3% in 2025 and 1.5% in 2026.

This dynamic should also be weighing on inflation, leaving the latest revisions looking inconsistent at first glance. In fact, we think the forecasts could have been lowered further.

Specifically, the ECB’s growth path looks optimistic compared to our own expectations for private sector activity, which we see falling into contraction in the second half of this year.

That said, President Lagarde was at pains to stress that the projections were almost unchanged relative to June. Moreover, she emphasised that core inflation was still expected to drop back to 2.0% by the end of the forecast period, suggesting confidence that disinflation progress remains on track. As we see it, this leaves open the door for further rate cuts in both October and December, without offering any hint on the Governing Council’s likely moves. This was, as usual, a message hammered home in the press conference. Lagarde once again noted that “data dependence does not mean data-point dependence” and that the Governing Council is “not fixated on one single number”. In short, while the October meeting is only five weeks away, all options remain on the table.

Our more downbeat view of economic conditions would favour another rate cut, and a reversal lower for the euro. Whether or not the data can convince the Governing Council in such a short space of time, however, remains an open question.

Author: 

Nick Rees, Senior FX Market Analyst

Disclaimer

This information has been prepared by Monex Europe Holdings Limited, part of Monex S.A.P.I. de C.V. (“Monex”). The material is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is, or should be considered to be, financial, investment or other advice on which reliance should be placed. No representation or warranty is given as to the accuracy or completeness of this information. All entities in the “Monex” group of companies are regulated for different products and services within the jurisdictions in which they operate. Details of the different entities can be found here. Details of the respective entities’ regulated status and available products and services can then be found on the relevant links to the individual jurisdictions’ website.