ECB set to cut rates but summer pause looms amid global uncertainty

Malay Mail

3 days ago

FRANKFURT, June 5 — The European Central Bank is almost certain to cut interest rates again on Thursday and keep all options on the table for subsequent meetings, even as the case grows for a summer pause in its year-long easing cycle.
The ECB has cut rates seven times in 13 months as inflation eased from post-pandemic highs, seeking to prop up a euro zone economy that was struggling even before erratic US economic and trade policies dealt it further blows.
With inflation now safely in line with its 2 per cent target and a cut flagged by a host of policymakers, Thursday's decision will be uncontroversial, shifting the focus to what signals ECB President Christine Lagarde might send about policy ahead.
Investors are already pricing in a pause in July, and some conservative policymakers have also advocated a break to give the ECB a chance to reassess how exceptional uncertainty and policy upheaval both at home and abroad will shift the outlook.
'Reasons for the ECB to be cautious moving forward relate both to the need for more information on the trade war, and retaliatory measures in particular, and on German fiscal easing,' Societe Generale economist Anatoli Annenkov said.
While ECB board member and chief hawk Isabel Schnabel has made explicit calls for a pause, Lagarde is likely to be more cautious, repeating the bank's standard guidance that decisions will be taken meeting by meeting, based on incoming data.
The case for a pause rests on the premise that the short- and medium-term outlooks for the 20-country currency bloc differ greatly and may require a different policy response.
Inflation could dip in the short term, possibly even below the ECB's target, but increased government spending and higher trade barriers could add to price pressures later.
The added complication is that monetary policy impacts the economy with a 12-to-18 month lag, so support approved now could be giving help to a bloc that no longer needs it.
A cut on Thursday would take the deposit rate to 2.0 per cent, which the ECB considers 'neutral' - no longer holding back the economy but not yet stimulating it either.
Divergent outlook
Acknowledging near-term weakness, the ECB is expected to cut both its growth and inflation projections for next year.
US President Donald Trump's trade war is already damaging activity and will have a lasting impact even if an amicable resolution is found, given the hit to confidence and investment.
This sluggish growth, along with lower energy costs and a strong euro, will curb price pressures.
'By September, we expect the Governing Council to judge that a mildly supportive policy stance is warranted, as the headwinds to growth from trade fragmentation intensify and concerns mount over inflation undershooting in early 2026,' economists at Barclays said.
Indeed, most economists think inflation could fall below the ECB's 2 per cent target next year, triggering memories of the pre-pandemic decade when price growth persistently undershot 2 per cent, even if projections will show it back at target in 2027.
Further ahead, the outlook changes significantly.
The European Union is likely to retaliate against any permanent US tariffs, raising the cost of international trade. Firms could meanwhile relocate some activity to avoid trade barriers but changes to corporate value chains are also likely to raise costs.
Higher European defence spending, particularly by Germany, and the cost of the green transition could add to inflation while a shrinking workforce due to an ageing population will keep wage pressures elevated.
'We think the window for ECBrate cuts will close over the late summer,' UBS economist Reinhard Cluse said.
'We believe the ECB might have to hike rates again in late 2026 to counter rising inflation pressure in 2027, amid a euro zone — German — labour market that is subject to structural tightness during the demographic transition.' — Reuters