Next week, European Central Bank (ECB) is anticipated to reduce interest rates, a decision that could diminish borrowing costs for European businesses and individuals and potentially spur economic activity across the eurozone. However, experts are wary, pointing out that the move could inadvertently weaken the euro, heighten the price of imports, and possibly escalate inflation. While short-term benefits for borrowers seem promising, the long-term economic impact remains uncertain.
Philip Lane, the ECB’s chief economist, believes that lessening monetary policy restrictions is warranted if their assessment of inflation forecast, core inflation trend, and strength of monetary policy transmission reinforces the forecast of inflation nearing their aim. However, Lane stresses that the mere act of initiating these discussions does not equate to a complete success.
Francois Villeroy de Galhau, head of the French central bank, expects the decision in June to be a rate reduction barring unforeseen circumstances. The ECB’s deposit facility currently sits at a record-high 4%, and its primary refinancing operations are at 4.5%. The impending rate cut could lower the deposit facility to 3.5% and refinancing operations possibly to 4%.
ECB’s anticipated rate cut: opportunities and challenges
De Galhau recognises the risk of inflation acceleration but is confident that the ECB’s constant vigilance and proactive approaches will mitigate these risks.
The Eurozone announced an inflation rate of 2.4% annually in April 2024, a significant tumble from the prior year’s 7%. This drop signifies the ongoing trend of cooling inflation, largely due to lower energy prices and more modest food price inflation. Despite the decrease in inflation, the Eurozone’s economic growth continues steadily, albeit at a slower pace.
The UK’s annual inflation rate up until April 2024 was marginally lower at 2.3%. Due to their respective inflation rates, neither the Bank of England nor the US Federal Reserve are expected to enforce any rate cuts until late this year, exhibiting caution and advising businesses and individuals to prepare for potentially higher borrowing costs.
Klaas Knot, leader of the Dutch central bank, suggests quarterly rate reductions by the ECB in sync with its economic predictions. However, he emphasizes flexibility in monetary policy implementation and discourages any specific promises about future rate trajectory. He believes that keeping policy adaptable to the unpredictable global economy variables is crucial and that decisions should be based on real-time economic climate rather than future rate commitments.
