ECB poised for first rate cut in June. Fund managers react

Once again, the ECB has decided to keep interest rates unchanged for the fifth time in a row. The Governing Council of the European Central Bank has decided not to touch the reference rates in the Eurozone, which will remain at 4.5% (the highest level since 2001), at least until June.
As we wait to see what may happen in June, we leave you with the first reactions from international fund managers after the meeting.

Inflation development and labour markets set the path

• Gurpreet Garewal, Macro Strategist, Fixed Income and Liquidity Solutions, Goldman Sachs AM

The ECB continues to point to an initial rate cut this summer, subject to inflation developments and labour market conditions coming in line with expectations. We suggest an overweight stance on European rates relative to other markets, as both growth and the inflationary environment favour a retreat from tightening policies. However, as the US experience shows, the evolution of rates is data dependent, which calls for a dynamic approach to duration exposures.

An imminent easing cycle coming

• Felix Feather, Economist at abrdn

The European Central Bank (ECB) did not surprise today by holding interest rates for the fifth consecutive time. As expected, the institution set the stage for an imminent easing cycle by adjusting its monetary policy statement. This decision confirms that, barring major economic surprises, the ECB is on track for a rate cut at its next meeting in June. Do not expect it to rush to cut interest rates. Despite embracing the idea of cuts, the members of the institution also stressed the need to keep policy tight for some time, which would prevent a series of very sharp cuts.

Nevertheless, we expect the bank to make several 25 basis point cuts before the end of the year.

Markets discount a substantial rate cut

• Konstantin Veit, Portfolio Manager at PIMCO

As expected, the ECB remains on hold and maintains its data-dependent stance on a meeting-by-meeting basis.
If incoming data, especially on wages and profits, broadly confirm the scenario in the March projections, we believe the ECB will cut rates in June. Once the ECB starts cutting rates, we believe it will do so cautiously in the conventional 25 basis point steps.
Markets have discounted a substantial rate cut. As a result, rates look more reasonable and are now in line with our forecast of three cuts this year.
Risks probably point to a smaller number of cuts, mainly due to the tightness of services inflation, labour market resilience, easing financial conditions and the ECB's risk management considerations.

Wage growth moderation reassures the ECB

• Martin Wolburg, Senior Economist at Generali AM

The ECB paved the way for a policy pivot. It became more confident that disinflation continues, with moderating wage growth a key ingredient. While some Governing Council members already wanted to cut today the majority preferred to wait for the updated outlook in June. We expect these data to be consistent with the disinflation projection so that the GC will walk its talk from today that it would then be appropriate to reduce policy restriction. We continue to look for a first 25 bps cut by June.

The door is open for a rate cut in June

• Karsten Junius, Chief Economist at J. Safra Sarasin Sustainable AM

The ECB held its key interest rates steady, despite some council members' preference for an immediate rate cut. President Christine Lagarde confirmed that the disinflationary process is underway, although domestic price pressures remain strong. However, she also said that not all components of the consumer price index basket need to grow close to 2% for a first rate cut. Importantly, wage growth is moderating and companies have absorbed some of the increase in labour costs into their profit margins. In addition, she confirmed that financing conditions remain tight, implying that policy rates are above their neutral level. In short, the ECB's new baseline - if the inflation assessment is confirmed - is that a rate cut on 6 June is appropriate. However, the ECB has also stressed that it has not committed itself in advance to a specific policy path, i.e. whether a cut in June would be followed by a cut in July. We expect the central bank to take a cautious stance and cut only in June and September.

It also confirmed that further progress has been made in bringing inflation closer to the medium-term objective. Currently, food and goods prices are leading the disinflationary process, while services prices remain elevated. The ECB expects inflation to fluctuate in the coming months due to base effects related to energy prices. By mid-2025, it expects inflation to fall to 2%. This process is driven by weaker labour cost growth, as wage growth is gradually moderating, and by firms' partial absorption of higher labour costs into their profit margins. While unemployment rates are at the lowest level since the introduction of the euro, labour market tightness is gradually diminishing, improving the prospects for lower wage and services inflation.

Aggregate demand remains subdued, as credit dynamics are weak, reflecting tight credit standards and weak loan demand, to which the tight monetary stance is contributing. Weak demand was the basis for some members to lean towards a rate cut in April. However, a consensus seems to have emerged that a cut in June is the new baseline and that no further indication is given as to whether a first cut would be followed by a cut in July or September (or both). Lagarde also explained that there has been no further discussion of the size of the balance sheet and that domestic inflation in the eurozone is far more important than any inflationary surprise in the US. Our forecast remains for rate cuts in June and September and four rate cuts in total this year.

A very high standard for not cutting rates in June

• François Cabau, economist at AXA Investment Managers
• Hugo Le Damany, economist at AXA Investment Managers

A decision-free meeting as widely expected.

The ECB GC decided to leave all its policy rates unchanged, thus keeping its interest rate at 4% for the fifth consecutive meeting. The decision was widely expected by all market participants and taken by a large majority, as reported by Christine Lagarde during the press conference. Both the monetary policy statement and the press conference reiterated the key messages of the March meeting.

The fresh news was perhaps a moderate tilt.

Relying on a slightly more moderate monetary policy statement ("by moderating wage growth, firms are absorbing some of the increase in labour costs into their profits"), President Lagarde dismissed the recent spike in energy prices, arguing that the ECB's March inflation path already incorporated a number of bumps before reaching the target by mid-2025. Moreover, services inflation remains high, at 4% for the fifth consecutive month, but she emphasised that "we are not going to wait for everything to go back to 2%". Finally, she stressed that some members of the General Council already felt confident enough to cut interest rates in April: "the direction is quite clear".

More data needed to determine domestic disinflation

President Lagarde reiterated the message from the March meeting that a lot of data will be released before the June meeting. Beyond the usual dissection of monthly (services) inflation, quarterly series such as negotiated wages, labour productivity and unit earnings will be available for the first quarter. They will be crucial to test - and feed into the Eurosystem staff forecast update - whether the ECB's two key assumptions made in March will remain correct: the expected pick-up in labour productivity, the de facto reduction in unit labour costs and the evidence that lower corporate profits will absorb the rise in labour costs. Despite the significant reliance on ECB data, we believe it would take a significant upside surprise for the ECB not to cut in June, in line with our previous forecast.

Rate cut path uncommitted

Both the monetary policy statement and the press conference were consistent in avoiding commenting on the future rate path in line with our expectations. After a first rate cut of 25 basis points in June, we continue to expect two further rate cuts in September and December, bringing the interest rate to 3.25% by the end of the year.

The ECB's monetary policy in April has been calm for financial markets.

Both the short and long end of the curve remained broadly flat at 2.96% for the 2yr bond (-2bp) and 2.46% for the 10yr bond (flat), while EURUSD was also flat at 1.07. We are a bit surprised that the June rate cut has not been fully priced in (still at 80%), but we believe that some investors are still not accepting that the ECB may cut before the FED. By the end of the year, the market still expects a rate cut of 75 basis points, in line with our forecast.