ECB Cuts Interest Rates On Weaker Eurozone Growth Outlook

(RTTNews) - The European Central Bank reduced its key interest rates by 25 basis points on Thursday, as expected, as the euro area growth is expected to slow on weaker demand and core inflationary pressures remain high, thanks to the stickiness of services inflation.

The Governing Council, led by ECB President Christine Lagarde, lowered the deposit facility rate, which is the new policy rate, to 3.50 percent.

The bank also announced that the spread between the interest rate on the main refinancing operations and the deposit facility rate will be set at 15 basis points, effective September 18.

The interest rates on the main refinancing operations and the marginal lending facility will be decreased to 3.65 percent and 3.90 percent, respectively.

"Based on the Governing Council's updated assessment of the inflation outlook, the dynamics of underlying inflation and the strength of monetary policy transmission, it is now appropriate to take another step in moderating the degree of monetary policy restriction," the ECB said.

In June, the ECB cut interest rates for the first time since 2019, citing an improvement in the inflation outlook. In July, the bank opted for a pause, but policymakers including President Christine Lagarde were actively hinting at a reduction in September ever since.

The latest set of ECB Staff projections were also revealed on Thursday that showed headline inflation averaging 2.5 percent this year, 2.2 percent next year and 1.9 percent in 2026. These were unchanged from the June projections.

The bank expects inflation to rise again in the coming months, partly because previous sharp falls in energy prices will drop out of the annual rates. Price growth is expected to retreat to the 2 percent target over the second half of next year. The ECB Staff raised the core inflation projections for this year and next were revised up slightly owing to higher-than-expected services inflation.

Core inflation was projected to sharply slow from 2.9 percent this year to 2.3 percent next year, and to 2.0 percent in 2026.

The Eurozone economy is projected to grow by 0.8 percent this year, 1.3 percent next year and 1.5 percent in 2026. The June projections were revised down, mainly owing to a weaker contribution from domestic demand over the next few quarters.

The ECB said it will keep policy rates sufficiently restrictive for as long as necessary to achieve its price stability aim.

Policymakers will continue to follow a data-dependent and meeting-by-meeting approach to determining the appropriate level and duration of restriction, the bank said.

"In particular, its interest rate decisions will be based on its assessment of the inflation outlook in light of the incoming economic and financial data, the dynamics of underlying inflation and the strength of monetary policy transmission," the bank said.

"The Governing Council is not pre-committing to a particular rate path."

The ECB observed that domestic inflation remains high as wages are still rising at an elevated pace. However, the labor cost pressures are moderating, and profits are partially buffering the impact of higher wages on inflation, the bank added.

Financing conditions remain restrictive, and economic activity is still subdued, reflecting weak private consumption and investment, the ECB said.

ING economist Carsten Brzeski expects the ECB to step up the pace of rate cuts in future, mainly due to a weakening growth outlook for the euro area, not this year, but in 2025. That is because German wage negotiations and rising selling price expectations suggest stickiness of inflation, the economist noted.

Brzeski expects the next ECB rate cut to come possibly in December.

Capital Economics economist Andrew Kenningham also holds a similar view. "The balanced tone of the press release suggests that policymakers have not significantly changed their assessment of the outlook," the economist said. The changes to ECB staff projections are too small to have much impact on expected monetary policy decisions, Kenningham concluded.

The latest ECB rate cut has come ahead of a widely expected reduction by the U.S. Federal Reserve next week. Fed Chair Powell and his fellow policymakers have already signaled that it is time to lower interest rates as they are increasingly confident that inflation is on its way back to the target.