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Doubts grow that the ECB will be able to raise rates in 2019


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Doubts grow that the ECB will be able to raise rates in 2019

Economists are tempering expectations of a rise in interest rates in the eurozone this year amid weakening data and stubbornly low inflation, despite the European Central Bank's warm words on the economy.

The ECB's governing council remained cautiously optimistic about the economic outlook in the euro area, with the central bank's chief economist, Peter Praet, highlighting that annual wage growth reached 2.5% in the third quarter of 2018.

SNL Image

The ECB has not raised rates under Mario Draghi's presidency.

Source: AP Images

"The pick-up in wage growth had also become broader-based across different euro area countries and sectors of the economy," Praet said, according to minutes from the December 2018 governing council meeting, published Jan. 10.

Stronger wages have yet to feed into a rise in core inflation, which fell to 1.0% in November from 1.1%, defying the expectations of the bank, and leaving the measure a long way from the ECB's medium-term target of 2.0%. ING's chief economist, Carsten Brzeski, said the continued confidence that the governing council expressed was now based more in hope that reality.

"With the next ECB meeting due in two weeks from now, all eyes will be on how the latest set of disappointing macro data will impact the ECB’s assessment of growth," he wrote in a research note.

The ECB has long guided that a rate rise — which would be the first under Mario Draghi's presidency since he took the role in November 2011 — will not occur until after the summer at the earliest, leading investors to price in one rate rise in 2019. That expectation is now changing.

"The reality is that no-one seriously believes that they will be able to deliver on that guidance, and if there is anyone who still does, they have probably had a little too much of the post-Christmas grog," wrote Michael Hewson, chief market analyst at CMC Markets.

Slowing economy

A key headwind for a tightening of monetary policy is that the euro area's economy has been slowing, with quarterly GDP growth in the third quarter of 2018 of 0.2%, down from 0.4% in each of the previous two quarters.

More recent indicators have also been weak as Germany flirts with a technical recession, having recorded a contraction in industrial production of 1.9% in November.

A slowdown in France may reverse as the main effects of the "gilets jaunes" protests wear off, yet the last consumer confidence data was poor. ING senior economist Julien Manceaux described French consumer confidence as being "in free fall" as the PMI indicator fell to 86.7, its lowest point since October 2014, adding to the "pile of horrific indicators."

The ECB's Benoît Cœuré acknowledged in the minutes that survey results and signals in the market indicated "a push-back in the expectations for the timing of a first rise in key ECB interest rates."

ABN Amro's Aline Schuiling & Nick Kounis expect that the ECB will have to delay rate rises later until March 2020, at which point it will limit its increase to 20 basis points. "Lower economic growth will likely translate into an (even more) subdued outlook for core inflation," they wrote, noting, "financial markets have shifted closer to our current base case, with the first hike fully priced in only in March/April 2020."

Capital Economics also expects the ECB to maintain rates having revised down its forecasts for growth in the eurozone to just 1.0% in 2019.