ECB Poised to Beat Fed to Rate-Cut Punch. Why the Timing Is Awkward.
June 05, 2024 11:17 am EDT
The European Central Bank is widely expected to get ahead of the Federal Reserve on Thursday and deliver its first interest-rate cut since the Covid-19 pandemic unleashed a surge of inflation.
It won’t be the first central bank to cut since—Canada pulled the trigger on a reduction Wednesday, and Switzerland and Sweden moved earlier this year.
The quarter-point reduction will bring the ECB deposit rate to 3.75%. It has long telegraphed the move as inflation slowed from its decades-high peak in 2022 despite recently ticking up.
The more interesting question is where the central bank for the 20 countries sharing the euro goes from here. The case for a cut now is weakened by growth picking up and the headline inflation rate remaining significantly above the ECB’s 2% target.
The euro area inflation rate, which hit a high above 10% in 2022, rose to 2.6% in May from 2.4% in April. Core inflation, which excludes volatile food and energy costs, as well as services inflation accelerated in the month. At the same time, the unemployment rate fell to a record low in April and the economy grew more than analysts expected in the first quarter.
At the same time, expectations for Fed cuts have been pushed back to the second half, if at all this year.
Some ECB policymakers have warned about the risk of cutting rates too much before price gains are brought under control. Others say the bank should still be able to start a series of rate cuts this month.
ECB President Christine Lagarde will hold a press conference on Thursday after the decision. That will give her a chance to explain the bank’s latest round of forecasts. The previous projections published in March showed inflation slowing well below 2% next year.
“The ECB’s own communication over the last two months has made it almost impossible not to cut” in June, said Carsten Brzeski, global head of macro at ING. “The rationale behind the cut will be to very gradually reduce the level of monetary policy restrictiveness without ending restrictiveness.”
Another concern for the ECB is that if it gets too far ahead of the Fed in lowering rates, it could weaken the euro against an already strong dollar. That would add to inflation concerns and could cause some financial instability.
At the same time, the prospect of earlier rate cuts in Europe has helped stocks. The STOXX 600 index touched a record high last month.
“One thing is clear: a longer substantial rate-cut cycle will only materialize if inflation quickly returns to 2%,” said ING’s Brzeski. “Any signs of reflation and also stronger economic activity would limit the ECB’s room for maneuver.”
Write to Brian Swint at brian.swint@barrons.com
