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Falling inflation is set to prompt the European Central Bank to start cutting interest rates by the second quarter of 2024, according to the majority of economists polled by the Financial Times.
Rate-cut expectations have intensified since inflation in the euro area slowed to 2.4 per cent in November, down from its peak above 10 per cent a year earlier and only slightly above the 2 per cent ECB target.
Almost 60 per cent of respondents in the FT survey predicted inflation would reach the 2 per cent threshold in 2024, although some said it was likely to speed back up again from there.
“Inflation may shortly dip below 2 per cent in the second quarter of 2024,” said Fritzi Köhler-Geib, chief economist at German state-owned development bank KfW. “Yet for most of the year the inflation rate will be somewhat above 2 per cent.”
The ECB has warned that it expects inflation to reaccelerate in December before slowly declining to its target in mid-2025. Isabel Schnabel, an ECB executive board member, recently told Süddeutsche Zeitung newspaper: “We still have some way to go and we will see how difficult the famous last mile will be.”
How quickly price pressures subside will be the key question as the central bank decides when to start lowering borrowing costs.
Only two of 48 economists surveyed by the FT forecast that the ECB would start cutting rates in the first three months of 2024, despite investors pricing in a greater than 50 per cent chance of such a move in March.
“Being too slow to cut rates [could] well prove more damaging for the ECB credibility than failing to raise rates quickly in response to an energy shock,” said Davide Oneglia, head of European and global macro at TS Lombard.
The ECB has raised its deposit rate from minus 0.5 per cent last year to its highest ever level of 4 per cent, in response to the biggest surge in consumer prices for a generation.
Almost 42 per cent of economists said they thought the ECB had overtightened monetary policy by raising rates too high, while half of them said its response had been “about right” and only 2 per cent thought it still had not done enough.
“The ECB has raised interest rates very aggressively — by large amounts and quickly — and there is a risk that it has overestimated the strength of the euro area economy and overtightened,” said Stefan Gerlach, former deputy head of Ireland’s central bank who is EFG Bank chief economist.
A third of economists predicted that the ECB would wait until the second half of the year to start lowering borrowing costs, while one out of eight thought this would not happen until 2025. Once the cuts started, the economists on average expected the ECB to keep lowering its deposit rate until it reached close to 2.25 per cent.
Just over half the respondents said they did not think the ECB’s credibility had been seriously damaged despite criticism for being too slow to start raising rates last year, while a third said its reputation had been tarnished.
Eric Dor, director of economic studies at IESEG School of Management, said the surge and subsequent decline of energy prices raised questions about the ECB’s ability to control inflation.
“The current decrease in the headline inflation rate is essentially due to the downturn of energy prices, directly and indirectly,” he said, adding: “There is little evidence that the increase in interest rates is directly depressing aggregate demand.”
Debt levels of several EU governments have risen to record levels above 100 per cent of gross domestic product in recent years, including Italy, France and Spain. But most economists were sanguine about the risk of a financial crisis.
Almost 80 per cent said the spread between the 10-year bond yield of highly indebted southern European countries and those of Germany was unlikely to rise significantly. “I would not be surprised to see European periphery spreads fall further in 2024,” said Katharine Neiss, chief European economist at investor PGIM Fixed Income.
The EU recently agreed new debt and deficit rules that will require most governments to rein in their spending. Sandra Phlippen, chief economist at Dutch bank ABN Amro, identified “debt sustainability as politicians start to turn towards austerity” as one of the main risks looming over the euro area economy.
Source: Economy - ft.com
