MNI ECB WATCH: Lagarde Says Cuts Not Discussed As Rates Held

The European Central Bank kept interest rates on hold Thursday and said inflation should fall below the 2% target in 2026, though President Christine Lagarde insisted that there had been no discussion of the timing of rate cuts.

The deposit rate remains at 4.00%, with Lagarde pushing back at market pricing indicating around 100 basis points of cuts beginning in April, saying “We are data dependent, not time dependent.” (See MNI SOURCES: ECB Needs Sub-3% Core Inflation To Consider Cuts)

The ECB repeated guidance for policy rates to be set "at sufficiently restrictive levels for as long as necessary," and for "a data-dependent approach to determining the appropriate level and duration of restriction." It also announced that it would begin to phase out reinvestments under its Pandemic Emergency Purchase Programme in the second half of next year.

“Measurements of domestic inflation are hardly moving,” Lagarde said. “Should we lower our guard? No, we should absolutely not.”

INFLATION OUTLOOK COOLS

December’s staff macroeconomic projections saw the outlook for inflation revised downward, with the headline rate seen reaching 1.9% in 2026, though core inflation is expected to prove stickier, easing to 2.7% in 2024 before falling to 2.1% at the end of the forecast period.

Past rates decisions continue to be transmitted strongly into the real economy, Lagarde said, and tighter financing conditions, lower loan demand and subdued foreign demand are likely to weigh on economic activity in the near term. But growth is seen picking up from an average of 0.6% for 2023 to 0.8% for 2024, and 1.5% for both 2025 and 2026.

Wage data will be crucial to determining the rate path next year, Lagarde said, adding that the ECB will need to see evidence pay rises are being absorbed into profit margins. The labour market, while strong, is showing signs of weakening, with the total number of hours worked dipping 0.1% in Q3 2023, she said.

Lagarde refused to be drawn on the timing of any rate cuts next year, except to say that any such decisions would be made independently of whether or not the ECB has begun shrinking its balance sheet.

“We did not discuss rate cuts at all,” Lagarde said. “We believe there is still work to be done, and that can very much take the form of holding.”

Reinvestments from PEPP will continue in full for the first half of next year, then shrink by an average EUR 7.5 billion per month before being discontinued at the end of 2024.

“Interest rates are our primary tool and we will use that independently of what happens on the PEPP side, which is on the back burner,” Lagarde said, adding that “a very large majority was fine with stopping reinvestment at the end of 2024.

“As long as we reinvest, we still have that flexibility which was one of the attributes of PEPP,” she said. “It’s a normalisation of the balance sheet which is welcome at a time when we don’t see a risk of fragmentation; but if there were a risk we have other tools that we would not hesitate to use for a second.”