ECB cuts policy rates with greater urgency

The European Central Bank (ECB) cut its policy rates today for the third time in this cycle. The interest rate on the main refinancing operations, the marginal lending facility, and the deposit facility were each lowered by 25 basis points to 3.40%, 3.65%, and 3.25%, respectively.

Not only is this the first back-to-back rate cut in this cycle, it is also the first time in 13 years that the ECB has cut rates in consecutive meetings. Although ECB President Christine Lagarde was very careful not to provide any forward guidance, instead emphasizing their data dependent approach, markets are expecting a further run of consecutive rate cuts over the coming few quarters.

Recent developments

In the last policy meeting, President Lagarde had suggested the hurdle for an October rate cut was fairly high. Yet, the past few weeks have seen a series of weaker than expected data prints, including the composite PMI falling below 50, while inflation has now dropped below 2% for the first time since 2021, prompting markets to reprice their rate expectations.

President Lagarde herself noted that the data since their last meeting has surprised to the downside, with manufacturing continuing to contract, and consumer spending remaining muted. The slowdown in economic activity has contributed to the disinflationary pressures, with almost all inflation numbers across both soft and hard data all pointing downwards. In particular, the most recent inflation data, which showed headline CPI slipping to 1.7%, came as a surprise to them and added to their confidence in the future direction of inflation—leading the committee to unanimously decide to lower rates by 25bps today.

Policy outlook

It has become increasingly evident that gradual ECB monetary easing is insufficient and that back-to-back rate cuts are necessary. While the ECB has resisted providing forward guidance and President Lagarde has emphasized data dependence, it is unlikely that there will be such a turnaround in the data in the next month that the central bank can afford to stand pat in December. The troubling state of the Euro area economy suggests that the path forward is fairly clear: Consecutive rate cuts through the first half of 2025.

On a final note, Lagarde was asked about the potential impact of a Trump victory in the U.S. Presidential elections. She noted that, as an open economy, export growth is a key contributor to Euro area growth so any increase in trade barriers, such as tariffs, would pose additional downside economic pressures to Europe. In that scenario, it is possible that the ECB would need to continue cutting rates into the second half of 2025.

Principal Asset Management