European Central Bank cuts interest rate again

The European Central Bank cut interest rates for a second time this year amid mounting concerns about a recession in the eurozone.
The central bank of the 20 countries that use the euro lowered its main deposit rate by a quarter point to 3.5 per cent from 3.75 per cent on Thursday. The move was widely expected and comes after the ECB began cutting rates in June.
The euro was broadly flat against the pound, at €1.31, and the dollar at $1.101, following the announcement. The pan-European Stoxx 600 index climbed by 1.13 per cent, or 5.75 points, to 513.78.
The ECB said it would “continue to follow a data-dependent and meeting-by-meeting approach to determining the appropriate level and duration of restriction”. Its governing council said in a statement that it was “not pre-committing to a particular rate path”.
Christine Lagarde, president of the ECB, and the governing council had ratcheted interest rates in Europe to a record high of 4 per cent since July 2022 to combat a surge in inflation, which reached a peak of nearly 11 per cent.
Lagarde, 68, said that inflation was developing in line with forecasts, but warned that the growth outlook was worrying. She added that future interest rate cuts were “pretty obvious”, but would not say when these would come.
“Domestic inflation remains high as wages are still rising at an elevated pace. However, labour cost pressures are moderating and profits are partially buffering the impact of higher wages on inflation,” she said.
Russia’s invasion of Ukraine roiled European energy markets by curtailing gas supplies, turbocharging inflation in 2022 and 2023. Germany, Europe’s largest economy, had for decades relied on cheap Russian gas for manufacturing and industrial output. Inflation has since fallen back to 2.2 per cent.
The ECB said that the eurozone economy would grow by 0.8 per cent this year, 1.3 per cent in 2025 and 1.5 per cent in 2026, a slight downgrade compared with its June projections. Inflation is tipped to average 2.5 per cent this year and “should then decline towards our target over the second half of next year”, the central bank said.
The ECB has stolen a march on the Bank of England and US Federal Reserve in cutting interest rates, reflecting weaker growth in Europe compared with the UK and United States. It was the first large central bank to roll back policy in June.
Analysts are sceptical that the ECB will lower borrowing costs again at its next meeting on October 17. Carsten Brzeski, global head of macro at ING, the Dutch bank, said: “The next rate cut looks likely in December.”
Yael Selfin, chief economist at KPMG UK, said that if growth worsened “it will strengthen the case of more doveish policymakers to increase the pace of cuts in 2025 towards a terminal rate of around 2.25 per cent”.
The ECB’s latest rate decisions came after Mario Draghi, the former ECB president and Italian prime minister, warned in a 300-page report that the European Union must create a new industrial strategy, including boosting investment by €800 billion annually to raise productivity and growth.
Lagarde largely endorsed the former ECB president’s recommendations, characterising it as a “formidable report”.
The Federal Reserve is expected to begin its rate-cutting cycle next Wednesday, loosening policy by a quarter-point. The federal funds rate is likely to fall by 1 percentage point this year from a range of 5.25 per cent to 5.5 per cent, according to market forecasts.
The Bank of England, on the other hand, is poised to leave the UK base rate on hold at 5 per cent at its meeting next Thursday. Andrew Bailey, the Bank’s governor, and four other members of its rate-setting panel clinched a slim 5-4 vote majority at the previous meeting to cut the base rate by a quarter point.
Central bankers really love numbers. So much so, that they rely on them to determine their decisions on interest rates rather than a conviction about the strength of their respective economies (Jack Barnett writes).
Christine Lagarde, president of the European Central Bank, is at pains to stress that future interest rate announcements will be based on this love of numbers. She is a “data dependent” advocate.
That phrase has often been repeated by Andrew Bailey and Jerome Powell, chiefs of the Bank of England and US Federal Reserve, respectively.
This strategy of being led by the numbers rather than trying to influence them tends to be employed by monetary policymakers as inflation nears the common 2 per cent target, as is the case in the UK, US and eurozone right now.
The rationale seems sensible. Cutting rates too early or by too much could reignite price growth, forcing central banks to explain to an already disgruntled public that they are raising rates again just as the light at the end of the tunnel emerged.
It is pretty “obvious” that interest rates will fall further, Lagarde said in the post-interest-rate-announcement press conference on Thursday. Incoming economic data will determine the pace of that decline.
But inflation is not the only piece of information a central banker should consider. Growth is another determinant of the optimal level of interest rates in an economy. It is perhaps this indicator where the rich economies of the world diverge the most.
For the ECB, there is a stronger case for larger or faster rate cuts over the next year. The eurozone economy has been on the brink of a recession for about a year, with Germany in stagnation.
The UK has seen stronger than anticipated growth since the turn of the year. Services inflation is over 5 per cent and unemployment low at 4.1 per cent, leading investors to price in just one more rate cut by the Bank this year.
The base case for the US is for a soft landing, but traders are so concerned about the labour market that they believe the Fed will deliver four quarter point rate cuts this year.
Economic data can confirm assumptions but can also upend them. Expect interest rate predictions to fluctuate again for the rest of the year as the numbers roll in.