By Patrick Barbe, European fixed income head at Neuberger Berman
Recent comments from ECB members point to a rate cut of 25 basis points. Would that be the right decision in your view?
There is a broad consensus among ECB members to cut their policy rate to 2.5%, which is the upper limit of their range for estimating the neutral rate. This is why the ECB will most likely lower its key interest rates by 25 bp as early as next Thursday. Several members have recently become more confident that Euro inflation will fall towards 2% by summer. The rise in market bond yields reinforces the restrictive stance of the monetary policy. The current political uncertainties – French government, the Trump’s trade tariff war – should weigh on capital expenditure, especially when banks in the euro area tightened their credit standards for companies in Q4 2024, the most since 2023.
What impact has the German Election on the markets and the upcoming ECB decision?
German elections should not have an impact on this ECB decision. It will take some time to form a new coalition and then develop a program for the new government. The improvement in global economic activity and the fact that industry has bottomed out make it less urgent to plan additional government spending. Rather, an impact is expected in the second half of the year.
The ECB is likely to lower interest rates as the interest rate differential between the US and the eurozone is widening. With what consequences?
The key interest rate differential widening between the Fed and the ECB has two consequences. Firstly, this has an impact on the euro currency against the dollar as the increasingly low yields in the euro money market move further away from the historically high nominal yields in USD. From a more technical perspective, this leads to a normalization of the shape of the yield curve: lower yields on short maturities and higher yields on long maturities. Indeed, euro bonds are still under the influence of global bond markets, the latter being led by US Treasuries, whose yields have been rising since September last year.
What are you particularly keeping an eye on in the upcoming meeting?
The ECB is expected to provide more information on its confidence that eurozone inflation will fall back towards 2% by mid-year. It would be good to hear the ECB’s views on the divergence in core inflation between Germany – stable at 4% yoy in the services sector -, France – at target – and Italy – below target – and its outlook for household consumption, given that households in Northern Europe have saved much of their wage increases amid uncertainty and rising unemployment.