Euro Area - Hike or Cut?

There’s now an interesting debate as to whether the ECB cuts, hold or even hikes in the first quarter of next year.

The market had been pricing in a 0.5% reduction in rate for 2024, but recently the bets of rate cuts have increased to 1% for 2024. Moreover, the rate cuts are now expected as early as March 2024.

A consequence of this has been the easing of financial conditions across the Euro Area and perhaps premature celebration in terms of a inflation data coming in below 3%. Rates have pulled back in recent weeks in tandem with global rates declining and equities are getting a bid.

In the face of this, some hawkish ECB members are trying to walk back the narrative and tighten financial conditions again by hinting at further rate hikes.

While the ECB has kept the door open to hikes, it’s unlikely that hiking at this stage would provide incremental benefit to bringing down inflation. It would rather just hamper growth even more. Unless there’s some major shock to the system that causes energy & food costs to spiral and cause inflation to soar, we’re likely done with hikes.

Inflation

Inflation metrics for the broader Eurozone has done well. The last reading came out at 2.9% YoY on headline and Core Inflation at 5% YoY. That’s significant progress from the peaks in this cycle which was 10.6% on Headline and 7.5% on Core. However, this comparison goes to show that the rate of change has been more drastic on headline and mostly driven by energy costs and the war.

On the other hand, ECB members did point out that this steep deceleration has been because of base effects from last year and that there’s a chance that inflation may come back.

A look below the numbers however, show us that there are still several countries that have painfully high levels of inflation. This is why the ECB continues to remain on guard.

Subscribe to MacroVisor Premium to read the rest.