MNI SOURCES: ECB Still Divided Over Guidance As It Nears Cuts

A growing number of European Central Bank policymakers are comfortable with market pricing implying as many as six rate cuts by September 2025, though more hawkish Governing Council members stress the risks of indicating a clear easing path, Eurosystem officials told MNI.

While members are united in considering rates should remain in restrictive territory for now despite an uncertain growth outlook, some in the dovish camp see margin for cutting the deposit rate by at least 75-100 basis points from its current 4% before having to move more cautiously.

“I see that we will be at 3% for a while. But again speed matters. The more you wait, the less time we will spend at 3%,” one national central bank official said.

Another source, however, said uncertainty is too great for explicit guidance on a rate path and that ECB decisions will depend on data, dismissing the idea that 3% could serve as a staging post before an additional move lower.

“That would suggest there is a pre-planned path already in place, and as I say, there certainly isn’t,” said the source, though he expects the ECB to reduce rates three times in 2024 – in June, September and December.

“I'm not looking at cuts as an easing path per se, but a recalibration of the restrictive policy,” the source added. “We believe there is a case for taking a gradual and pragmatic approach to rate cuts - small but regular steps.”

MARKET PRICING

Still, Governing Council members are growing more comfortable with market pricing, which currently implies about 90 basis points of cuts by December and 150 by September next year, in line with assumptions in the ECB’s March projections.

March’s lower-than-expected inflation could even prompt a push by dovish members for clear guidance confirming June’s widely-expected 25-basis point cut after the April 11 Governing Council meeting, mirroring guidance provided at the beginning of the tightening cycle in mid-2022, one official said.

Though such guidance might not necessarily be included in the statement, President Christine Lagarde could prepare remarks for the press conference, indicating that the Council feels “more confident, if no surprises, [that] we will cut 25bp in June,” the official said, speaking after eurozone inflation fell to 2.4% in March from 2.6% in February.

But more hawkish national central banks would be wary of such explicit guidance.

While markets are currently pricing in 15 basis points of cuts in July after a near-fully-priced 25 in June, one official stressed that Federal Reserve policy decisions will also be an inevitable factor in deciding the pace of ECB cuts. The Fed’s June meeting will follow the ECB’s, and Eurosystem officials concede that an excessive divergence between the two central banks’ rate paths would be undesirable. (See MNI SOURCES: ECB Wary Of Any "Significant Divergence" With Fed)

Another official agreed.

“If we assume that in June the ECB will cut by 25 basis points, that there is good news on the inflation front and that we do get a second, maybe a third one, while the Fed remains intact … are we going to see some kind of inflation resurgence as a result of a weaker euro? That’s the number one fear right now,” the official said.

“Another issue is are they ready to accept an inflation of 2% plus something? Because now interest rates are at 4% and the expectation is that inflation will fall. But what happens if it remains the same? So let’s make the first cut and then wait and see.”

The ECB’s considerations are complicated by doubts over the current level of the neutral rate of interest which is the point at which rates have neither a stimulative nor depressing effect on prices.

“It’s just a kind of guiding beacon,” one official said, while another noted that calculations of neutral were not useful at the moment.

UNCERTAINTY OVER RECOVERY

The greater accuracy of recent ECB projections could also mean that forecasts regain prominence in policy setting, sources said. Differences within the Governing Council over inflation centre on whether services inflation risks derailing the downward trend in the rate of prices growth and pushing up wages or whether it is the lagged expression of the earlier inflationary impulse.

Another key variable is whether an expected economic recovery materialises in the second half of the year, with doves arguing that any shortfall from expectations should prompt more aggressive cuts.

“It has been five quarters that we overestimated growth for the eurozone,” said one source, adding that growth drivers such as global demand have yet to manifest.

“The ultimate goal has to be a soft landing for the economy,” said another.

An ECB spokesperson declined to comment.