ECB won’t be held back by the Federal Reserve
Given an ECB rate cut on June 6th is now seen as a near-certainty, attention will soon turn to how rapidly the ECB can cut rates over the next two years. One view has been the ECB will have limited scope because divergence from the Federal Reserve will place downward pressure on the euro. However, the euro area is a relatively closed economy so the impact of any currency depreciation onto HICP inflation is limited. Also, the current divergence between ECB and Fed policy rates is not exceptional. Rather, the ECB’s median estimate of the nominal natural policy rate is close to 2%. This highlights rates could decline more rapidly than market expectations for the ECB’s deposit rate to fall to 2.76% rate by end-2025 and 2.56% by end-2026.Of course, there is also the risk that if current rates of HICP inflation above 2% prove more persistent than expected, this could limit the ECB’s scope to cut rates.
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