Eurozone inflation is decelerating nicely, now below the 2% target. However, the European economy remains delicate, raising numerous concerns. Considering these and other economic indicators, the European Central Bank (ECB) decided on Thursday, October 17th, to implement its third 25 basis point cut in key interest rates, bringing them below 3.7%.
This latest ECB rate cut in October was anticipated by many market analysts and European regulators, given the current risk of eurozone inflation falling below target and the economy’s fragility. Among the voices advocating for this move was Mário Centeno, governor of the Bank of Portugal, who emphasized the need for a rate reduction at this meeting due to the “current state of the eurozone economy.”
Thus, the ECB, led by Christine Lagarde, proceeded with the third cut in key interest rates during the monetary policy meeting on Thursday, October 17th, in Slovenia. This time, the reduction was 25 basis points across the three key rates (unlike September’s non-uniform decrease). The ECB acknowledged that while the disinflation process is “well underway,” financing conditions remain “restrictive,” as stated in the post-meeting release.
With the ECB’s latest monetary policy easing, the three key interest rates will be adjusted from Wednesday, the 23rd of October:
- The main refinancing operations rate drops to 3.4%. Previously, this rate was 4.5%, the highest since May 2001.
- The rate for the permanent liquidity provision facility decreases to 3.65%.
- The rate for the permanent deposit facility lowers to 3.25%.
Consequently, “the ECB is proceeding with its plan to gradually reduce monetary pressure, confident that inflation seems to be under control, though it still has a significant way to go to hit the 2% target”.
Why did the ECB decide to implement new interest rate relief?
This new interest rate relief marks a “shift” for the institution, as during its last monetary policy meeting in September, the ECB indicated it would likely wait until December to take action. At that time, analysts also believed an October rate cut was unlikely, expecting further reductions to be postponed until December.
From that point forward, the new economic data has emerged, significantly increasing the likelihood of the ECB cutting interest rates sooner than initially expected. After all, the euro’s guardian bases its monetary policy direction on this data:
- Inflation in the eurozone: Continued to slow, dropping to 1.7% in September 2024, the lowest since early 2021, according to Eurostat this Thursday.
- Core inflation in the eurozone (excluding energy and unprocessed food): This rate slowed to 2.7% in September but remains above the ECB’s 2% target. “Domestic inflation remains high due to rapidly rising wages,” explains the European regulator in the document. Even so, “the disinflationary trend is undeniable and will support greater monetary easing” .
- Economic growth: The European economy was “weaker” than the ECB expected, with GDP growth of just 0.2% in the second quarter of 2024. “The situation in industry and construction is not good, people are spending less, and companies are cutting investments,” the regulator explained at the last meeting.
The weak performance of the European economy, particularly Germany, has been raising concerns recently, prompting the ECB to ease monetary policy in October to boost consumption and investment. Even the latest signs of economic recovery haven’t swayed the ECB’s decision. Consumer and corporate credit demand rose in the summer of 2024, and European banks experienced a “strong increase” in housing loan demand in the third quarter, indicating the start of a recovery after significant declines during the monetary tightening cycle, according to the ECB’s latest survey of European banks.
Additionally, European industry is showing recovery signs. Last week Tuesday, the 15th of October, Eurostat reported that the eurozone’s industrial production index grew by 1.8% in August compared to July. Germany, the largest economy in Europe, saw a notable 3.3% increase in industrial production, one of the highest. Moreover, the fact that eurozone inflation is below the 2% target also influenced the ECB’s decision to cut interest rates. As the governor of the Bank of Portugal explained, “a restrictive monetary policy for too long risks pushing inflation below its target,” which isn’t favorable for sustainable economic growth.
As a result of this, the ECB acknowledges that “inflation is expected to rise in the coming months, then fall to the target next year. Meanwhile, labor cost pressures are expected to ease gradually, with profits partially absorbing these pressures,” according to a statement. This new interest rate cut aims to balance the need for economic stimulation while ensuring inflation remains within the desired range, supporting sustainable growth across the eurozone.
Will the ECB cut interest rates again in December?
The possibility of an interest rate cut at the ECB’s upcoming monetary policy meeting on December 12th remains uncertain. It was stressed that the Governing Council does not pre-commit to a specific rate path, and decisions will be based on the latest economic and financial data.
The ECB is currently unable to establish a predetermined path for interest rates, opting instead for a ‘meeting by meeting’ approach. Comments on inflation suggest increased confidence in achieving the 2% target, while concerns about the worsening growth outlook since summer hint at possible further rate cuts by the end of the year.
Analysts at Ebury Portugal expect that markets anticipate a 25 basis point cut at each of the upcoming ECB meetings until at least mid-2025. They suggest that, barring new developments, rates will gradually decrease as these forecasts are realized, potentially keeping the deposit rate at 3% by the end of the year.
An economist forecasts three consecutive ECB rate cuts in December, January, and March. Additionally, market expectations suggest rate cuts at each ECB meeting until April 2025, potentially reducing the deposit rate to 2% by next summer.
The ECB must also monitor economic indicators in the eurozone and the impact of conflicts in the Middle East and Ukraine, which could drive up energy prices. Additionally, the ECB considers the US Federal Reserve’s decisions, as differing interest rate paths could lead to euro depreciation against the dollar, increasing import costs.
The Organization for Economic Cooperation and Development (OECD) has recommended globally that “there is room to reduce interest rates,” while advising that monetary policy should remain “prudent.” The OECD projects that key interest rates in the US and euro area will fall by 1.5 and 1.25 percentage points, respectively, by the end of 2025, bringing them closer to neutral levels.
Forthcoming ECB Sessions
The ECB’s Governing Council meets roughly every six weeks. Here is the schedule for the upcoming monetary policy meetings, where key interest rate decisions will be announced:
December 12, 2024 | January 30, 2025 | March 6, 2025 | April 17, 2025 | June 5, 2025 | July 24, 2025 | September 11, 2025 | October 30, 2025 | December 18, 2025.
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