“The European Central Bank faces a critical juncture as it convenes amidst a backdrop of wavering bond markets and a downward trajectory in the economy, highlighting the urgency for decisive action and strategic measures to steer the region towards stability and growth.”
The European Central Bank (ECB) is set to keep rates unchanged during its upcoming meeting in Athens. Despite easing inflation pressures and a worsening economic outlook for the euro area, the ECB plans to maintain high rates for an extended period of time. Recent bond market volatility may delay discussions about an earlier exit from the quantitative tightening program. Additionally, the attacks on Israel and their potential impact on the oil market pose new upside risks to inflation. On the other hand, downside risks to growth have increased, further complicating the situation for the ECB.
September’s inflation data showed a decline to 4.3% from 5.2% in August, according to Eurostat. While this decline was faster than expected, there are still upside risks to inflation, such as wage effects and the possibility of higher oil prices. Since the last ECB meeting, bond yields have risen significantly, causing concern in Frankfurt.
The increase in long-term interest rates and market volatility could present challenges to the ECB’s current policy stance and efforts to avoid a recession. Discussions about speeding up the reduction of the ECB’s balance sheet may also be influenced by the rise in yields. The potential destabilizing effect on the ECB of accelerating quantitative tightening related to the Pandemic Emergency Purchase Program (PEPP) will be a topic of consideration.
The question of how long rates will remain “higher for longer” will be a major topic of discussion during the meeting. There is caution about pivoting towards a rate cut too soon, with expectations of the first cut in September 2024. However, the risk is shifting towards June 2024, according to Mark Wall, chief economist with Deutsche Bank.
Overall, the ECB faces a complex set of challenges as it navigates the economic landscape of the euro area. The decisions made during the upcoming meeting in Athens will have significant implications for the region’s financial markets and the broader economy.