ECB Insight: Continuity Appropriate; Lagarde to Stay the Course as June Objective Comes Within Reach

10 April 2024

By David Barwick – FRANKFURT (Econostream) – When European Central Bank Governing Council members of such disparate stripes as Austrian National Bank’s Robert Holzmann and De Nederlandsche Bank’s Klaas Knot on the hawkish side or Bank of Greece Governor Yannis Stournaras and Banco de España head Pablo Hernández de Cos on the dovish side all clearly expect the ECB to start loosening monetary policy in June, then a first rate cut in June should be everyone’s central scenario.


To be sure, policymakers may have other personal preferences. Holzmann for example openly regards June as potentially premature, while Stournaras made no bones about his opposition to September’s rate hike and was probably ready to ease as of a few months ago, despite consistent public references going as far back as October to the possible appropriateness of a first cut ‘in the middle of next year’.


That notwithstanding, the point is that there has been a considerable convergence of views in the last weeks, and the ECB can feel confident that a large majority of Governing Council members are on board with the current approach involving waiting in April and a data-dependent first cut in June.


And why not? A compromise is clearly necessary between those who dream of not changing one whit about the monetary policy stance until everything becomes clear in retrospect, i.e. rather late, and those who thought months ago that the ECB was gratuitously throttling growth. June already emerged last year as an appropriate choice, thanks to Chief Economist Philip Lane, and the latest data have not called it into much question.


We think that a dominant sentiment at the ECB is the desire to avoid the error of cutting too soon, and we don’t believe that anyone on the Governing Council fails to understand the desirability of insuring against such a misstep by waiting for the data that will become available between now and June.


While one should never say never, an April surprise thus seems to us all but excluded. It would suggest an ECB that says one thing and does something diametrically different without circumstances having changed to justify the contradiction, an ECB willing to suddenly and needlessly appear to have sacrificed patience to panic.


And having set the stage thoroughly already, we don’t see why ECB President Christine Lagarde should need to do anything communication-wise that doesn’t simply follow in the previously established vein that has served her well for some months, finally aligning market expectations with policymaker rhetoric.


That is, it should be entirely sufficient for her to reiterate that the ECB is nearing the point at which its confidence will be sufficient for a cut, and that June will bring a lot more information relevant to the decision. The ECB has already been quite clear, which is why markets almost universally expect a first cut in June, making superfluous any explicit commitment to such a move or even a conditional ‘intention’ (which the ECB can be understood to have been signalling unambiguously enough anyway).


Expectations that she will shed much light on what happens after June in terms of the magnitude or frequency of subsequent steps are probably misplaced. Clearly, one 25bp cut is not the extent of what anyone has in mind. But data-dependence reigns supreme for the foreseeable future, and the ECB is perfectly capable of cutting once and then deciding that the data are developing in a manner that doesn’t justify cutting again immediately.


In effect, the ECB is still operating in a dark room, and this calls for the ‘small steps’ urged by then-Executive Board member Fabio Panetta two years ago, albeit in a completely opposite context, given that he was seeking vainly at the time to stave off bold policy tightening.


Though one can be sure that small steps hold less appeal to Panetta now, as the ECB prepares to loosen the monetary reins, the fact is that neither he nor anyone else on the Council knows just where the dividing line lies between restrictive and non-restrictive interest rates.


With the ‘last mile’ question still open as some sources of inflationary pressures continue to demonstrate persistence, and with the relief at positive wage developments somewhat marred by concerns over productivity, the ECB has little choice but to feel its way along.


Against that backdrop, preferences like that of De Nederlandsche Bank Governor Klaas Knot for moving only at projection meetings are subordinate to whatever will be appropriate at the moment. Similarly while steps of more than 25bp are entirely possible if the data warrant it, the descent – given the circumstances – seems likely to be slow.


All this has been observed before, making Lagarde’s task on Thursday relatively simple. The course has been set and there is no obvious evidence that would justify any meaningful correction, no particular need to try to be seen as hawkish or dovish just because the June objective is now within grasp.


Sticking to the course and its messaging, as we expect will occur Thursday, will help ensure that markets don’t get carried away anew just because the euro area is at last on the cusp of looser monetary policy.


In brief, we see no grounds for anything but a high degree of continuity, that is, very close consistency with what got us to this point, and this is what we anticipate tomorrow.