ECB Delivers on Rate Cut Despite Inflation Concerns

ECB Delivers on Rate Cut Despite Inflation Concerns

June 11, 2024

European Central Bank's Commitment to Rate Cut Amid Inflation Worries

The European Central Bank (ECB) proceeded with its first interest rate cut since 2019 on Thursday, adhering to its commitment despite growing uncertainties regarding the inflation outlook. The ECB had all but assured a rate cut after witnessing inflation drop from 10% in 2022 to just above its 2% target recently, largely due to lower fuel costs and the normalization of supply chains post-pandemic.

Stalled Progress and Rising Concerns

However, this progress has recently stalled. The latest wage and price data have been stronger than anticipated, raising concerns that inflation might remain persistent, similar to trends observed in the United States. During Thursday's meeting, ECB policymakers were presented with revised staff forecasts indicating that inflation is now expected to remain above the 2% target until late next year.

Summary of European Central Bank Key Decisions

ECB cuts deposit rate: The deposit rate was reduced to 3.75% from 4.0%, marking a significant move aimed at supporting economic growth.

Policymaker regrets: Some policymakers expressed regret over the commitment to hike rates previously and are now cautious about further moves.

Inflation forecast: Inflation is projected to stay above the ECB's 2% goal until late 2025, reflecting ongoing economic challenges.

Honoring Public Pledges

Despite these concerns, the ECB delivered the promised rate cut, partly to honor public commitments made by numerous policymakers. Sources informed that maintaining credibility was a significant factor in the decision. The ECB acknowledged the ongoing domestic price pressures and elevated wage growth, stating, "Despite the progress over recent quarters, domestic price pressures remain strong as wage growth is elevated, and inflation is likely to stay above target well into next year."

Market Reactions and Investor Sentiment

This announcement caused confusion among some observers and weakened investor confidence regarding future rate cuts. As a result, only one additional rate cut is fully priced in by the end of this year. Christophe Boucher, chief investment officer at ABN AMRO Investment Solutions, commented, "One wonders whether the ECB got stuck when prematurely announcing a cut, ahead of inflation and wage data."

Decision-Making Dynamics

The decision to cut rates was nearly unanimous, with only Austria's central bank governor Robert Holzmann opposing it. Nonetheless, a few conservative policymakers expressed regret about the commitment to a rate cut. Some even indicated that, under different circumstances, they might have voted to hold rates steady.

The ECB's action underscores the complexity of balancing economic signals and maintaining policy commitments. As inflation concerns persist, the central bank's decisions will continue to be closely scrutinized by market participants and economic analysts.

EUR CHF exchange rate falling ahead of ECB rate cut

The Euro Swiss Franc exchange rate peaked around 0.99 at on May 228th. Since then the anticipation of the expected rate cut of the ECB, the EUR/CHF exchange rate has been fallen around 2% to a Euro exchange rate of 0.97.

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