Durrant Pate/ Contributor

The European Central Bank (ECB) has cut interest rates once again, lowering it by 25 basis points, which now brings the rate down to 3.5%.

The rate cut was widely expected amid slowing inflation and tepid economic growth. This was the second rate cut in the current rate-lowering cycle, as the ECB responded to falling inflation and a deteriorating eurozone economy.

Previously, the Interest rate was cut in June but the bank offered no indications of what its next move would be. In a statement released yesterday announcing the rate cut, the ECB said: ”The Governing Council will continue to follow a data-dependent and meeting-by-meeting approach to determining the appropriate level and duration of restriction. The Governing Council is not pre-committing to a particular rate path.”

ECB President Christine Lagarde reiterated this, saying that the rate path was not predetermined with decisions taken on a meeting-by-meeting basis. At a press conference yesterday, Lagarde reiterated that rate decisions would be made, “meeting by meeting” based on economic data, essentially ditching forward guidance. 

ECB president sounded hawkish

Analysts say Lagarde sounded somewhat hawkish, noting that wage growth remains high and the labour market is still resilient. The ECB is being cautious and has signalled it will take a slow approach to further cuts and the markets are looking at a cut in December. 

If economic conditions suddenly worsen, the central bank would have to consider a rate cut next month. In the meantime, the euro has extended its gains today. EUR/USD is trading at 1.1091 in the European session at the time of writing, up 0.13% today. 

The euro has climbed 0.7% since the ECB’s rate cut yesterday. The war against inflation is largely won, which enabled the ECB to deliver the rate cut. Inflation in the eurozone has dropped to 2.2%, close to the target of 2%.

The ECB updated inflation forecast was unchanged from June, with inflation expected to average 2.5% in 2024 and 2.2% in 2025. The ECB’s next policy meeting in October will be closely watched, though sources suggest a further rate cut at that time is unlikely without a major change in the economic outlook.

Close watch on Fed next week

The Federal Reserve meets next week and rate cut odds continue to swing wildly. The US producer price index eased to 1.7% year-over-year in August, down from a downwardly revised 2.1% in July and below the market estimate of 1.8%. 

This sent the odds of a half-point cut soaring to 41%, up from just 13% yesterday. There is plenty of uncertainty as to whether the Fed will cut by 25 or 50 basis points.

The U.S. Federal Reserve is widely expected to begin its own rate-cutting cycle next week, while the Bank of England reduced rates last month for the first time since early 2020. 

Despite these actions, interest rates remain far from what economists consider the “neutral rate” – a level that neither boosts nor restricts economic activity. Many analysts predict that rate cuts might stop when they reach somewhere between 2% and 2.5%, though ECB officials have indicated that the exact level will only become clear as they approach it.