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ECB cuts euro zone interest rates again

The European Central Bank cut interest rates again as euro zone inflation slows and economic growth falters, but provided no substantial clues to its next step, even as investors bet on steady policy easing in the months ahead.

The ECB lowered its deposit rate by 25 basis points to 3.5% in a widely expected move, following up on a similar cut in June as inflation is now within striking distance of its 2% target and the domestic economy is skirting a recession.

With the cut widely expected, investor attention has already shifted to what will come next and how ECB decisions will be shaped by the US Federal Reserve’s widely expected start to its own rate-cutting next week.

But the ECB, the central bank for the 20 countries that share the euro, gave nothing away.

“We are not pre-committing to a particular rate path,” ECB President Christine Lagarde told a press conference, using the bank’s standard formula for what it calls its “data-dependent”, meeting-by-meeting approach to policy.

“We are looking at a whole battery of indicators,” she said, noting that September was likely to deliver a low reading of inflation simply because of statistical base effects.

Euro assets were little changed by the move and by the absence of clues on the future rate path, which analysts interpreted as evidence of the ECB’s caution.

“Given that the ECB’s track record of predicting inflation on its way up is rather weak, the ECB will want to be entirely sure before engaging in more aggressive rate cuts,” said Carsten Brzeski, Global Head of Macro at ING.

Christine Lagarde painted a mixed picture of inflation in the euro area continuing to be sustained by rising wages even as overall labour cost pressures moderated and were absorbed by companies.

More dovish ECB policymakers, mainly from the euro zone’s south, have been arguing that recession risks are rising and high ECB rates are now restricting growth far more than needed, raising the risk that inflation could undershoot the target.

But inflation-wary hawks, who are still in a majority, say the labour market remains too hot for the ECB to sit back, and that underlying price pressures, as evidenced in stubborn services costs, raise the risk inflation could surge again.

New economic forecasts did little to settle the debate.

Quarterly projections from the ECB’s staff showed that growth this year will be slightly lower than forecast in June while inflation is still only seen back at target in the second half of next year.

That means few if any policymakers are likely to argue against further easing, with the key divide being how quickly the ECB should move.

Hawkish policymakers have made clear that they see quarterly rate cuts as appropriate, since key growth and wage indicators – which inform the ECB’s own projections – are compiled every three months.

Investors are also divided, with another cut by December fully priced into financial markets but the chance of an interim move in October wavering between 30% and 50%.

Technical rate cut

With the latest cut, the ECB’s deposit rate will fall by 25 basis points to 3.5%. The refinancing rate, however, was cut by a much bigger 60 basis points to 3.65% in a long-flagged technical adjustment.

The gap between the two interest rates had been set at 50 basis points since September 2019, when the ECB was pumping stimulus into the economy to avert the threat of deflation.

It announced plans in March to narrow the corridor to 15 basis points, to encourage the eventual rekindling of lending between banks.

Such a revival is still years away, so the ECB’s move is a pre-emptive adjustment of its operating framework.

For now, banks are sitting on €3 trillion of excess liquidity which they deposit with the ECB overnight, making the deposit rate in effect its main policy instrument.

Over time this liquidity should dwindle, pushing banks to borrow again from the ECB at the refinancing rate, traditionally the central bank’s benchmark interest rate.

Once that happens, the main rate will regain its headline status, while the narrower rate corridor should help the ECB better manage market rates.

The marginal lending rate, a rarely used instrument, was also cut by 60 basis points to 3.9%.

Draghi report on EU economy is ‘severe but just’ – Lagarde

European Central Bank chief Christine Lagarde said that a report written by her predecessor Mario Draghi calling for sweeping reforms to boost the EU economy was “severe” but “just”.

“It’s a formidable report in that it poses a diagnosis which is severe but which is just in our view,” Lagarde said at a press conference.

The structural reforms proposed by Draghi “could be extremely helpful for Europe to be stronger”, she said.

The report called for the 27-country bloc to ramp up industrial investment by hundreds of billions of euros per year and boost innovation to keep pace with the US and China.

Draghi, who served as president of the ECB between 2011 and 2019, acknowledged his proposals were “unprecedented”.

The investment package would be a bigger boost than the post-World War II Marshall Plan to rebuild Europe, he said, but argued that it was justified by an “existential challenge” facing the bloc.

The proposals in the report could help the ECB “achieve better results in our monetary policy”, Lagarde said.

An increase in productivity, the deepening of the capital markets union and more financing for innovation would be “good news” for the central bank, she said.

“I very much hope that the executive authorities in charge will actually take it to heart and will see a path towards those structural reforms,” she said.

Article Source – ECB cuts euro zone interest rates again – RTE

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