The ECB cut rates on Thursday as expected. The question’s what to do next.
Inflation’s back near target by and large, and you can make the case that Europe’s teetering precariously on the edge of a shallow recession. But then again, you can always make that case, and it’s possible that ramped-up war spending will light a fire under things (figuratively and maybe literally too), which could re-stoke inflation.
Economists are focused on the neutral rate in Europe, which they reckon at — I don’t know, let’s just call it 2%. With Thursday’s cut, the depo rate’s 2.5%, which means the Governing Council has maybe 50bps of cutting capacity left before they have to make a decision about whether to take rates into stimulative territory.
The figure traces the post-pandemic path of inflation in Europe and the ECB’s policy response.
Obviously, the GC’s hawks don’t want anything to do with cutting rates below neutral with services inflation still lingering well above 3%, and some hawks worry neutral’s higher, where that means the ECB’s already there. The new statement described policy as “meaningfully less restrictive.”
On Thursday, the new forecasts (which are so indeterminate in Europe that to mention them is to inadvertently lampoon ECB staff) suggest headline price growth will run pretty much bang on 2% next year and into 2027. Core inflation too. The price growth outlook’s more or less the same as it was in December.
Look, I don’t love trafficking in cheap jokes at the expense of the economics profession, but… well, suffice to say it’s convenient that ECB staff expects inflation, both headline and core, to run exactly on-target next year and the year after.
As for growth, the bank revised its forecasts down again. The bloc’s economy will expand at a 0.9% clip this year and a slightly quicker pace in 2026 and 2027. Staff cited expectations for “lower exports” in explaining the revisions, as well as “ongoing weakness in investment,” which they attributed “in part” to elevated “trade policy uncertainty.”
The forward guidance retained the usual language around not “pre-committing” to any “particular” rate path. A meeting-by-meeting approach remains appropriate, the GC said, “especially in current conditions of rising uncertainty.”
The elephant in the room’s obviously defense spending and expectations for rapid rearmament in Germany. My suspicion is that the ECB will eventually be in the business of funding Europe’s defense outlays, or at least taking steps to ensure borrowing costs for de facto war bonds aren’t unduly punitive. 24 hours after I suggested as much this week, 10-year bund yields rose the most since the fall of the Berlin Wall.
On that point, I’d quickly note that with the legacy APP portfolio and the pandemic bond book both declining, the ECB’s freeing up balance sheet ammunition in the event they need to underwrite… well, ammunition.
Also, f-ck Vladimir Putin and everything to do with him.
Let me guess, got tired of emails suggesting that, by accurately reporting what people have said and done, you were somehow being a Putin apologist? I can imagine the exchange now. “What do I have to say to convince you I’m not somehow a Russia supporter? ‘f-ck Vladimir Putin adn everything to do with him?’ Would that do the trick?” “Yeah, that would do it.” “Fine.”
Nah, it’s always the exact opposite of that. As I hinted at in the monthly, investors are predisposed to Kremlin propaganda thanks to one man’s 15-year-old quest to make macro-market contrarianism synonymous with geopolitical counter-narrative, and unfortunately, that gets echoed by a couple of Wall Street strategists who think they’re being clever, but who’re actually unwitting dupes for the dictator in Moscow. Pointing that out sometimes wins me an “establishment shill” label, which I’ve always been happy to own if that means not being a mouthpiece for a tyrant. So I wanted to make it as explicit as possible.
Completely agree with you there. F-ck Putin.
If only our country, the only one this side of the PRC with capability to really do so, would in fact try hard to fck (as in fck over), rather than make love to, Vlad.
French noises about their nukes and rapid German rearmament (history shows quite possible and effective) might be a start, though…
Strong finish!
…….and Trump for cozying up to him.
(F-ck Putin and his friends)^2
The resurgence of the EU military industrial complex will be:
the base of armed democratic freedom (as the USA once was)
the vortex of the leader(s) of the free world (as the USA once was)
massively inflationary for the global economy
great for the EU economy
in the long run, great for global democracy and humanity as one people
a massive erosion of the US economy
Trump is following the game plan given to him from Putin via Musk. Thankfully these evil sociopaths will be dead soon (maybe not
Musk) and global humanity can progress. Eventually humanity will be past this fraught moment and we will find Pax Europa as our new North Star.