ECB Follows Through on Plans to Cut Interest Rates by 25 Basis Points
The ECB cut all three interest rates by 25 basis points as expected but reiterated it will not follow a predetermined rate path and will remain data dependent in future meetings. The central bank continued to stress that wage growth and services inflation require more attention but achieved the necessary conviction to lower rates given the fact that inflation has fallen 2.5% since September with the outlook improving.
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Updated staff projections revealed upward revisions to both inflation and growth in 2024 which spurred on the euro in the aftermath of the statement. The all-important medium term measure of inflation (2026) remained unchanged at 1.9% but remains under the 2% marker importantly, which is likely to help anchor inflation expectations. 2024 GDP was revised higher, from 0.6% to 0.9% which will serve as some good news for an economy that has stagnated for the last five quarters.
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Immediate Market Reaction
Markets reduced their rate cut bets after the upward revisions to the inflation and growth forecasts, helping to lift the euro. EUR/USD traded higher, not seeing much additional uplift from the hotter US initial jobs claims. EUR/CAD continued to rise further, on the back of yesterday’s Bank of Canada rate cut. German bund yields firmed slightly but the move remains contained.
Multi Asset Reaction (5-minute chart)
Source: TradingView, prepared by Richard Snow
Recent Lift in EU Data Points to a Staggered but Managed Cutting Cycle
The ECB went to great lengths to communicate a preference for Europe’s first rate cut at the June meeting as numerous officials explicitly mentioned that such an outcome would be appropriate.
Inflation has, until recently, revealed a steady and consistent decline as restrictive monetary policy has had a desired effect on the level of general prices in the euro zone. However, recent data has propped up, with some corners of the market concerned this may prevent/delay future rate cuts.
Both hard and soft data (surveys) point towards an improving economic environment in the euro zone. GDP rose in Q1 after five successive quarters of stagnant and sometimes negative GDP growth. Additionally, services PMI figures push further into expansionary territory while the manufacturing sector lags behind but has also seen an improvement. Economic sentiment indicators have been rising since Q3 last year and consumer sentiment has been on the up in 2024.
However, inflation concerns have emerged after EU inflation rose from a steady 2.4% to 2.6% in May (the blue line below). Another risk to the inflation outlook has emerged as negotiated wages (green line) also ticked higher. Officials appeared to brush off the hotter data as the most recent figure was influenced by German wages which are still catching up; and a blog from the ECB mentioned other indicators suggest wages are moderating.
Source: TradingView, prepared by Richard Snow
--- Written by Richard Snow for DailyFX.com
Contact and follow Richard on Twitter: @RichardSnowFX
