The European Central Bank (ECB) has lowered interest rates by 25 basis points, moving ahead of the US Federal Reserve in initiating cuts. As a result, , the ECB’s deposit facility rate stands at 3.75%, marginal lending facility at 4.5% and the main refinancing rate at 4.25%.
This cut was widely anticipated as the 2% inflation target in the Eurozone seems to be within reach.
Lindsay James, investment strategist at Quilter Investors, said: “While this news was well expected, it will no doubt provide relief to consumers and businesses on the continent. Ever since Russia’s invasion of Ukraine, Europe has struggled to combat the economic shock this produced, but signs are now improving, although uneven across the continent.
“While inflation has ticked up in recent months, the economic recovery is beginning to play out. This puts the ECB in a good position to cut further into a slowly improving picture, although the messaging is likely to remain restrained and cautious. As such, there may be some pauses on the way back down for rates in order to limit the scope of any divergence with the Federal Reserve.”
Yet, Neil Birrell, chief investment officer at Premier Miton Investors, warned that the path to further cuts will not be predictable or smooth, as inflation in the Eurozone is proving resilient.
For instance, the ECB has upgraded its economic projections, now forecasting inflation at 2.5% in 2024 and 2.2% in 2025, compared to the previous estimates of 2.3% and 2%, respectively.
Gurpreet Garewal, macro strategist, global fixed income at Goldman Sachs Asset Management, agreed. “The future trajectory of easing remains uncertain, given positive momentum in recent inflation and activity indicators, alongside cautious commentary from the ECB. We expect policymakers to maintain a data-dependent approach,” he said.
“We are closely monitoring inflation expectations, wage trends and services inflation. These are key indicators of inflation persistence that will determine the pace and scope of the ECB's rate cutting cycle. The Fed’s decisions and the euro's trajectory may also influence ECB policy in the second half of the year. We currently expect the ECB to adopt a gradual, quarterly easing strategy.”
However, Harry Richards, investment manager for fixed income at Jupiter Asset Management, believes that further cuts will be required as policy is still too restrictive, considering the likelihood that weak growth will persist and inflation will continue its "slow march" towards the target.
“We do not expect a 'one and done' scenario but, instead, believe we are on the brink of a full rate cutting cycle which should help to underpin returns within the fixed income space over the medium term,” he added.
Richards also believes that the Fed will follow suit in the coming quarters, as the labour market is softening, consumer weakness becoming apparent and shelter inflation fading.
“They may also fear unleashing the dollar wrecking ball if they do hold rates higher for too much longer whilst other developed market central banks are easing,” he said.
Finally, Quilter Investors’ James expects that today’s ECB decision may influence the Bank of England which is set to meet on 20 June 2024.
“The major central banks will not want to diverge too far from one another, and with political risk being ratcheted up, they also won’t want to be seen as too influential,” she concluded.