It seems markets and economists are finally coalescing around the expectation that the ECB will cut rates by 25 bps on Thursday. But, it’s been a long road with a lot of twists and turns to reach that point. And there is understandably quite a lot of uncertainty around that call, which means market volatility in the wake of the decision is to be expected.
After the last meeting, when the ECB cut for the sixth time in a row, there was a general feeling that it was time for a pause. Then the trade war hit, and everything was up in the air. As tariffs were announced, threatened, rescinded, and “clarified”, the Euro rose amidst the turmoil. This is usually an indication that higher rates are expected. But since the start of the week, it seems expectations are shifting again towards easing.
Giving the ECB a Hand on Inflation
The initial fear when the trade war broke out was that prices in Europe would rise, particularly driven by reciprocal tariffs. But, the European Commission has held off on raising levies. Meanwhile the higher Euro means that imported goods cost less. In other words, the tariffs have not only not led to inflationary pressure (so far), but have actually contributed to lowering inflation.
With the trade situation expected to negatively impact the European economy, the balance now shifts towards the central bank wanting to support growth. This brings easing back to the fore, and there has been an emphasis of pro-easing ECB members speaking ahead of the pre-rate decision blackout period.
What Are the Odds?
In a recent poll, 61 out of 71 (or over 85%) of economists agreed that a rate cut should be expected at the April ECB meeting. But, that poll was conducted after the mass tariffs were announced, but before the 90-day pause. 70% of those economists agreed that there would be another rate cut, most likely in June.
Futures markets in the last couple of days have come around to giving a rate cut a 70% chance, but are more dovish than the economists after that. The market is pricing in three more rate cuts this year. But, they do agree that a pause in May is the most likely scenario.
Gauging the Reaction
Normally, it would be expected of the central bank to give some clues as to whether there will be another cut or a pause at the next meeting. That can be in the statement or in the post-rate decision presser. But, given the uncertainty around the economic situation and tariffs, the ECB might put an emphasis on not providing an outlook.
That is certainly seen in ECB President Christine Lagarde’s comments in the lead-up to the meeting, in which she stressed that tariff policy makes it hard to predict where interest rates are likely to go. That will leave the markets with less guidance than usual, and could increase volatility. The key, however, could be whether the ECB puts more emphasis on price stability or concerns about economic growth. The former would imply a bias towards keeping rates elevated, while the latter would suggest more easing is on the way.
