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- How far ahead of the Fed will the ECB be?
We think the European Central Bank (ECB) will cut its key interest rates before the Federal Reserve (Fed.) That seems almost certain now. The first rate cut in the single currency area is likely on June 6. But when the first rate move will be made by the Fed is now a big question mark.
In the Eurozone the room to cut is growing. Inflation in the Eurozone fell to 2.4% in March.[1] In the U.S., however, the recent rise in prices has prompted some Fed officials to say that it could be some time before interest rates are lowered. Given tepid growth in the Eurozone and inflation that is not far above the ECB target (2%), we believe it is much less likely that there will be any calls to delay the first rate cut.
Lower Eurozone inflation helps ECB
Sources: Bloomberg Finance L.P., DWS Investment GmbH as of 4/22/24
But to what extent can the ECB break away from the Fed? Christine Lagarde, the ECB president, has said that the ECB's actions are "data-driven" and in no way "Fed-dependent." The Portuguese ECB Governing Council member, Mario Centeno, has also emphasized that the Frankfurt-based central bank is "not looking at the U.S." But there are other, more critical voices on the Governing Council.[2]
"I would find it difficult if we moved too far away from the Fed," said Robert Holzmann, Austria’s central bank governor. "If the Fed doesn't cut rates at all this year, I find it hard to imagine that we will cut three or four times." Bostjan Vasle, governor of the Bank of Slovenia, is also cautious. "The economic situation in the U.S. is currently different from that in the Eurozone," he said, and it was therefore “logical that the monetary policy response is also different. But this divergence has its limits." Boris Vujcic of the Croatian central bank strikes a similar note: "The longer a potential gap between us and the Fed exists, the more impact it is likely to have.”
All central bankers, of course, have their eyes on the exchange rate, which is not a central bank target but is also part of monetary policy considerations. A rate gap differential in which U.S. rates are higher could cause the euro to weaken. "A rapid devaluation would be out of place and would rekindle concerns about more imported inflation, especially as the oil price has already risen again," says Ulrike Kastens, European economist at DWS. In this respect, the discussion about the lack of a strong monetary policy divergence between the Eurozone and the U.S. is actually welcome, as we believe that the risks on the inflation side, especially with regard to service prices, are still present. "We still stick to our view of gradual interest rate cuts in the eurozone," says Kastens.[3]
