The ECB cuts interest rates but the hard part comes now

As widely expected, the European Central Bank cut rates for the first time since 2019, lowering the deposit rate by 25 basis points to 3.75%. This is an important move, carried out by Frankfurt independently of the Federal Reserve which is not expected to reduce American interest rates next week. “We decided to cut interest rates because our confidence in the path of inflation has grown in recent months” said the president of the ECB Christine Lagarde during the press conference that followed the meeting of the Board of Directors. Lagarde explained that there have been two phases in recent years of monetary decisions: the first was a very rapid and robust tightening of 450 points between July 2022 and September 2023. Then there was a pause phase from September 2023 to Today. “If we look back at the two phases, every moment we decided to move in one direction, we have halved inflation“, he said.

Now, however, comes the most important phase. The markets, in fact, are betting on new cuts, but the path is full of pitfalls given that inflation is struggling to fall and return towards the 2% target. “We made today's decision on the confidence that we are on the right path, but we will need more data in the coming months – and analysis of this data – to confirm that we are on a disinflationary path. We know what the destination is, the direction, the volumes of data that we will accumulate, but I cannot confirm that the reversal process is underway. It will be a data-dependent journey and what is very uncertain is the speed and time it will take, which will be determined by the data.”

After yesterday's rate cut by the Central Bank of Canada (by 25 basis points from 5 to 4.75%), Lagarde predicts that other euro area central bankers will undoubtedly provide an outlook on the timing and speed of cuts rates, but tried to get ahead of them by underlining that there will always be bumps in the road. “It will be a bumpy ride, we are aware of that– he underlined – The next few months will be very bumpy”.

Now the market's attention shifts to the United States. The Fed has kept rates in the 5.25% to 5.5% range since July 2023 and appears unlikely to change them at its June 12 meeting, while the world's largest economy remains strong and the inflation remains above target. A recent reading of core inflation may have Fed officials leaning toward a cut in September, but they are expected to remain cautious after that. Traders, who in January expected 150 basis points of Fed cuts this year, now expect around 44 basis points.