Policy normalisation in sight

Next week, on Thursday 7 March, the ECB is set to take another step in its policy normalisation process, from a restrictive monetary policy stance towards a neutral stance. The new staff projections on growth outlook are expected to be revised lower this year and broadly unchanged in 2025/2026. Inflation is set to be revised to 2% for 2025. While neither the revisions to staff projections nor Lagarde will close the door to a rate cut at a specific meeting, we continue to expect that the key meeting for the first rate cut will be the meeting in June. We do not believe that the incoming data since the January meeting has been sufficiently weak to make April the baseline meeting (see appendix on European data at the end of this report).

Markets significantly repriced policy easing expectations in February from around 150bp worth of rate cuts to 87bp. We continue to expect the first rate cut in June of 25bp and 75bp worth in total for this year.

Macro data places the ECB in a good position

Recent macro data has placed the ECB in a good position that buys extra time to wait for more data on inflation and wage growth before embarking on the first rate cut. The economy is stagnating but not collapsing, inflation expectations are anchored, and employment increased 0.3% in Q4 23. The PMIs released since the last meeting were decent with the service sector at 50 for the first time since July while the manufacturing sector is closing in on 50 (disregarding the German manufacturing slump). Together with record-low unemployment, this sets the scene for a gradual rebound in growth during this year. See also the appendix with incoming data since the latest GC meeting.

Staff projections imply rate cuts this summer, but not in April

The new staff projections have been long-awaited for setting the scene in the monetary policy outlook for this year and next year. For the first time in this hiking cycle, we expect the staff projections to show that inflation will hit the 2% target in both 2025 and 2026 and this increases the chance of April being a live meeting, all things equal.

We expect that lowering of the inflation March projections relative to the December round will occur on the back of recent lower than expected inflation data, anchored inflation expectations, and lower energy futures. This will revise Q1 24 down by around 0.3pp to 2.6%. Looking further ahead, energy futures suggest significant downward revisions of the technical assumption for the inflation projections. Gas and electricity futures for 2024 now trade at almost 50% of what was embedded in the December projections, while the oil futures are USD5/bbl cheaper. We expect that these factors, combined with the low monthly momentum in inflation, will mean headline HICP projections will be lowered to 2.4% in 2024 (-0.3pp), 2.0% in 2025 (-0.1pp), and 1.9% in 2026 (unchanged).

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