ECB Interest Rate Cuts Are Expected Amidst Alarming Inflation

Interest rate decisions are the main topic for economists lately, with various economies undertaking reforms to improve their macroeconomic and financial performance.

European policymakers are discussing the possibility of a third rate cut this year after delivering two reduction packages. The ECB interest rate is expected to decrease amidst an improving inflation rate, which fell under the target score.

However, is the less-than-predicted inflation drop satisfactory or harmful to the economy? Why is another EU Central Bank rate reduction package needed now? Let’s analyze.

ECB Interest Rate Overview

After reaching an all-time high as the interest rates in EU banks stood at 4.5% since September 2023, the improving economy this year has motivated decision-makers to drop the key interest rates.

The 2022-2023 rate hikes aimed to calm the economy overheating after the recovery from the pandemic and during geopolitical instability. These decisions helped slow the striking inflation that exceeded 10% in October 2022.

For the first time since September 2023, the interest rate of European Central Bank decreased by 25 points in June 2024, standing at 4.25%. The improving economy triggered another reduction in September 2024 by 60 points, lowering the interest rates of Euro banks to 3.65%.

However, economists predict another Euro Central Bank rate cut in October, registering a third reduction this year.

Inflation and ECB Policy Rate

The European Central Bank sets the inflation rate target at 2% as a medium level to introduce borrowing rate changes. Despite the inflation reduction last month, this indicator stood at 1.8%. 

However, this under-target score suggests the necessity for further EU Central Bank interest rate cuts to avoid economic stagnation.

European Central Bank Policy Rate Meeting

The ECB committee will meet on October 17th to make economic decisions regarding current market conditions and future outlooks. Many of these decisions can be affected by the recent Fed interest cuts last month, the geopolitical situation, and the improving Euro.

Euro Central Bank’s rate consists of three key figures: deposit facility, marginal lending, and refinancing rate, with the latter being the main topic for discussion, currently standing at 3.65%.

Market participants speculate on a 50-point decrease, which can continue throughout the following year if the macroeconomic indicators do not show massive signs of recovery.

Eurozone Macroeconomic Outlook

The 2023 rate hikes managed to pull the inflation rate down to under 5%, which is quite an achievement within one year. However, the ECB aims to keep this figure around or slightly above 2%.

This year, the inflation slowed from 2.8% in January to 2.2% in August. However, the last European Central Bank interest rate change in September could not stimulate a recovery, as the inflation slid under its target.

In order to trigger a recovery and keep up healthy indicators, the ECB interest rate must be dropped again. This decision aims to motivate businesses and individuals to take more loans, increase their spending, and boost the economy.

Conclusion

Following the US example, the ECB rate will likely decrease for the third time this year. The reduction from the 3.65% refinancing rate aims to sustain inflation over the 2% target level and boost the economy.

Experts predict a 25-point drop, as policymakers tend to be cautious about any decrease to avoid an exaggerated market reaction.