Market enthusiasm on rate cuts meets Lagarde's prudence: Who holds the key?

Lagarde is nervous of cutting interest rates before inflation falls
Lagarde is nervous of cutting interest rates before inflation falls Copyright Michael Probst/Copyright 2023 The AP. All rights reserved
By Piero Cingari
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ECB President Christine Lagarde emphasises caution on rate cuts after the central bank kept interest rates at record high on Thursday.

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Slower growth and a sharper decline in inflation in Europe - the European Central Bank (ECB) has just updated its previous economic forecast, released after the bank decided to maintain interest rates at record high.

The ECB lowered its economic growth projection for 2024 from 0.8% to 0.6%. The expected GDP for 2025 remains at 1.5%, and the economic output for 2026 was adjusted upwards from 1.5% to 1.6%.

Inflation is expected to decline, but the ECB is still cautious

The ECB has made major changes in its inflation outlook. For 2024, they expect prices to increase by an average 2.3% in the bloc instead of the previously signalled 2.7%.

Inflation forecasts for 2025 were lowered from 2.1% to 2%, and for 2026, from 2% to 1.9%.

The markets wasted no time in interpreting these developments as a green light for anticipated rate cuts throughout 2024. Yet ECB President Christine Lagarde took to the stage after the Monetary Policy meeting this afternoon with a cautionary tone, seeking to temper the enthusiasm surrounding potential rate adjustments.

Lagarde needs further assurance on disinflation

ECB President Christine Lagarde began her press conference by highlighting the ongoing economic weakness, with consumers holding back on spending, moderated investment, and reduced exports reflecting a slowdown in external demand.

"The risks to economic growth remain tilted to the downside," she stated.

While record-high interest rates are putting a break on GDP growth, leaving borrowing costs high, and dragging down investments, Lagarde still emphasised the necessity of additional evidence and data before considering any shifts in monetary policy.

She hinted at a cautious approach, ensuring that policy rates remain sufficiently restrictive for as long as necessary to support sustainable economic growth.

“The risks to economic growth remain tilted to the downside”
Christine Lagarde
ECB President

Contrary to market speculations, Lagarde clarified that rate cuts were not on the agenda for the current meeting. Instead, discussions were focused on gradually scaling back the ECB's restrictive stance.

Regarding the pace of future rate adjustments, Lagarde preferred not to commit to any pre-emptive move, emphasising the importance of data-driven decisions aligned with the ECB's medium-term inflation target of 2%.

Lagarde affirmed the ECB's independence from the Federal Reserve, dismissing speculation about aligning with potential rate cuts. She stated: "We are still in the holding season." Following this phase, she expects a gradual normalisation process.

European stocks cheer on potential rate cuts, but overbought levels require caution here

The European stock market, represented by the Euro Stoxx 600 index, surged to new all-time highs in Thursday's session, marking a 1% increase and heading towards the seventh consecutive week of gains.

All major stock indices across member countries were poised to close the session in the green, signalling that investors had positively embraced the ECB's statement, with imminent rate cuts now firmly on their radar.

Investors are betting on a full percentage point cut by the end of the year, as so-called futures markets indicate, with the first expected as early as June.

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