ECB Starts Cutting Rates Even as Inflation Fight Continues

• The European Central Bank cut borrowing costs from record highs on Thursday, acknowledging progress in its battle against high inflation but also signaling that the fight had yet to be won as inflation was set to remain too high until next year.
• Inflation in the 20 countries that share the euro has fallen from more than 10.0% in late 2022 to just above the ECB's 2.0% target in recent months, largely thanks to lower fuel costs and a normalisation in supply after some post-pandemic snags. As a result, the ECB welcomed the fall in price growth as it trimmed its deposit rate to 3.75% from a record 4.0%, its first cut since 2019.
• However, that progress has stalled recently, and what had looked like the start of a major ECB easing cycle only a few weeks ago now appears more uncertain due to signs that eurozone inflation may prove sticky, as has been the case in the United States. It also raised its inflation forecasts for this year and the next stressed any further rate reduction would depend on incoming data, and reaffirmed that borrowing costs needed to remain high enough to keep a lid on prices.
• "Despite the progress over recent quarters, domestic price pressures remain strong as wage growth is elevated, and inflation is likely to stay above target well into next year," the ECB said. Money market investors trimmed their bets on rate cuts after the announcement and only priced in one, with a slight risk of a second, for the remainder of the year.
• Some stronger-than-expected data about eurozone inflation, wages, and economic activity over the last few weeks has fuelled fears of a more difficult "last mile" on the way to the ECB's goal - a concern often expressed by influential board member Isabel Schnabel.
• Inflation in services, which some policymakers have singled out as especially relevant because they reflect domestic demand, has been a particular concern after it rebounded to 4.1% in May from 3.7% a month earlier. Most economists still expect the ECB to continue cutting its policy rate in the coming months and bring it to 2.50% by the end of 2025.

(Source: Reuters)