LONDON (Reuters) -The European Central Bank left interest rates unchanged, as expected, on Thursday but acknowledged that inflation is easing faster than it previously expected, potentially opening the way for rate cuts later this year.
The ECB has held borrowing costs at record highs since September and has so far batted back any call for a rate cut, even if policymakers are now openly acknowledging that such a move is coming and only the timing is up for debate.
A sharp fall in short-dated bond yields suggested traders were growing confident of rate cuts in the months ahead.
MARKET REACTION:
FOREX: The euro initially slipped against the dollar, but pared some of those losses to trade at $1.0894, unchanged from where it was prior to the decision, and unchanged on the day. The euro fell 0.3% against sterling to 85.35 pence.
BONDS: Germany's rate-sensitive two-year bond yield fell 6 basis points (bps) on the day to 2.81% , having traded flat at around 2.84% earlier
Money markets rate cut bets edged up, with traders pricing in almost 100 bps worth of easing by year-end, versus 90 bps earlier in the day.
STOCKS: European shares rose 0.9% and banking stocks were down 0.2% . The STOXX 600 index had been up 0.4% ahead of the decision. European real estate stocks, which rose after the decision, were last up 1.6% on day.
COMMENTS:
MARK WALL, CHIEF EUROPEAN ECONOMIST, DEUTSCHE BANK, LONDON:
"Given the revisions to the staff forecasts and the modestly changed wording to the statement, the ECB is inching closer to the first rate cut. It won’t surprise the market that the ECB is taking a meeting-by-meeting, data-dependent approach."
SEEMA SHAH, CHIEF GLOBAL STRATEGIST, PRINCIPAL ASSET MANAGEMENT, LONDON:
"The latest forecasts lay the foundations for a first ECB rate cut around mid-year. On their own, the downward revisions to both growth and inflation forecasts make a decent case for near-term policy rate cuts, while disappointing industrial production data from Germany only serves to emphasise the need for rate cuts.
But the ECB is leaning into its hawkish nature, waiting for further evidence of fading price pressures, particularly from the wage side, before introducing monetary relief."
JUSSI HILJANEN, HEAD OF EUROPEAN RATES STRATEGY, SEB, STOCKHOLM:
“It’s the forecasts on inflation that were revised lower (that have caused bonds to rally). Many participants, including us, were expecting them to keep the tail of the core forecast unchanged, but 2026 and 2025 forecasts were lower… Those were a potential dovish trigger for initial market reaction.”
“Considering how much the market had been shaving away rate cut expectations in recent months, the market was much more (likely) to have a dovish reaction.”
“Lagarde would need to kind of somehow open the door for a cut at the April meeting (for bond markets to keep rallying) and I don’t think she will do it, so I think it will prove temporary.”
“They don’t want to see the bond markets rallying. Several Governing Council members have been quite vocal lately, saying bets on rate cuts are counterproductive… They don’t like this kind of reaction.”
FLORIAN IELPO, HEAD OF MACRO, LOMBARD ODIER INVESTMENT MANAGERS, GENEVA:
"The tone remains set for 'higher for long enough' without letting anything transpire as to when the ECB sees itself cutting rates: inflation pressures remain vivid according the ECB staff projections, implying that ECB cuts will only happen later. However, the press release is made to let investors understand how the ECB does not see itself hiking again – half a step in the direction of a pivot.
"In terms of markets, the underlying message is not negative and the euro declined on the publication. The Q&A session could change that mood at the margin, but the ECB is progressively moving to the camp of those central banks which are no longer markets’ enemies."
SYLVAIN BROYER, CHIEF EMEA ECONOMIST, S&P GLOBAL RATINGS, FRANKFURT:
"Since the ECB has been setting interest rates for the euro zone, it has lowered them 21 times, and never when core inflation was above 2.2%.
"Today, core inflation stands at 3.1% and will not fall below 2.2% before the summer. Barring an accident affecting growth or financial stability, a cut in ECB rates in June is therefore the most likely scenario."
ANDREW KENNINGHAM, CHIEF EUROPE ECONOMIST, CAPITAL ECONOMICS, LONDON:
"There was only a small change to the press release compared to January. Rather than saying "the declining trend in underlying inflation has continued", today's statement says "although most measures of underlying inflation have eased further, domestic price pressures remain high, in part owing to strong growth in wages."
"Arguably that is slightly hawkish, but not enough to shift the dial on rate expectations. The line that "ECB interest rates are at levels that, maintained for a sufficiently long duration, will make a substantial contribution" to bringing inflation to target is unchanged."
MARCHEL ALEXANDROVICH, EUROPEAN ECONOMIST, SALTMARSH ECONOMICS, LONDON:
"My impression is that there isn't a meaningful pivot in this statement."
"There have been some downward revisions to inflation but the scale of the revision doesn't raise the chances of an imminent move."
ALTAF KASSAM, EMEA HEAD OF INVESTMENT STRATEGY AND RESEARCH, STATE STREET GLOBAL ADVISORS, LONDON:
"This hawkish pause was all but 'nailed on', as it was extremely unlikely that the ECB would move before the Fed. With the chances of a Fed cut now almost completely priced out for May, we see the odds for an ECB cut in April to have shrunk close to zero as well, hence our call for a June start to the easing."
"The message seems to be that the Bank (ECB) needed to wait for more evidence that inflation was sustainably coming down to their 2% target before considering easing. That said, with the official inflation forecasts lowered as well, we do see a clearer path to June's easing."