MNI SOURCES: ECB Officials See Rate Expectations As Stretched

MNI (LONDON) - European Central Bank officials increasingly expect to ease policy at each of the next several Governing Council meetings, taking the deposit rate towards the upper end of estimations of neutral, but view market bets on a further six consecutive cuts as slightly exaggerated barring a change in circumstances, Eurosystem sources told MNI.

 A 25-basis-point rate cut in December to 3% is seen as a done deal by officials, but some warned against assuming there will be consecutive cuts at each Governing Council meeting until April 2025, emphasising that the ECB will stick to its data-dependent stance.

“The debate may be the more hawkish members ... will argue for quarterly projection round cuts, whereas others will now look for consecutive meeting cuts, and they are probably now in the ascendency,” one source said, “We will likely go lower than 2.5%, but I think it will definitely be a slower pace as we fine tune towards terminal at the end.”

Another agreed on the general direction, adding that a string of consecutive cuts is not assured.

“It depends on the neutral rate. I don't think there is consensus on seeing it at 2.5%. There are people who are more uncertain about and think it could be higher,” the official said, speaking as senior ECB representatives prepared for the IMF meeting in Washington.

DISAGREEMENT OVER NEUTRAL

Interest rate futures foresee 131 basis points of cuts by September, which would leave the deposit rate at just over 1.9%, pricing which officials described as “over ambitious.” While there is consensus that the ECB will move quickly towards a neutral rate, there is a considerable spread between estimates of where that lies, with some seeing it as low as 2%, but others suspecting it lies closer to 2.75%.

Once officials judge that neutral territory has been reached they are likely to argue for a more cautious approach to further cutting, and for the ECB to take time to fine tune policy.

Market pricing is “a bit rich but probably not ridiculously so,” said one of the officials, who considered it likely that rates would land in the 2-2.5% range, with a greater risk of going as far as 1.75% than stopping at 2.75%.

Even though the ECB is shifting into a period of faster easing, sources saw no need to change its data-dependent and meeting-by-meeting approach, at least until it looks to indicate that rates are at or near terminal levels. On Monday, Lithuanian central bank Governor Gediminas Simkus  pushed back against the idea of increasing the pace of cuts to 50bp.

INFLATION RISKS

Inflation and growth risks are seen to the downside, with revised December projections likely bringing the point at which the ECB reaches its 2% inflation target towards the second quarter of 2025 from the fourth, two sources said. (See MNI INTERVIEW: Risk ECB Undershoots Inflation Not High -Vujcic)

Even an expected move higher in inflation in the fourth quarter this year will not alter this perception of the balance of risks, with one source saying there is a chance the inflation bump could be less pronounced than expected.

However, policymakers stressed the need for caution. 

“Growth is weakening but other indicators are showing resilience,” said one official pointing in particular to the labour market. Another source also stressed the need for caution given rising domestic prices and wages.

An ECB spokesperson declined to comment.