When the European Central Bank (ECB) meeting concluded on Thursday, September 12, with the second interest rate cut of this cycle after the first in June, the possibility of a further cut in October remained a complete mystery. President Christine Lagarde was so impenetrable at a press conference that it was impossible to extract any clues for next month.. In the following days, his own words and those of his colleagues in the Government Council gradually closed the door on October on the grounds that forecasts are coming true, that it is better to go slowly and that there is very little space between September and October. But just when it seemed that December was the winning card, the US Federal Reserve made a first “giant” rate cut of 50 basis points, which put pressure on the ECB to accelerate its reductions. Even if the markets have not yet fully bought into the October cut, the poor leading indicators of eurozone activity published this Monday are redoubled this pressure and They are starting to open the door to a “giant” reduction (of 50 basis points) for the December meeting.The reading causes the euro to suffer its biggest drop against the dollar on Monday since August, when markets suffered extreme volatility due to fears of a recession in the United States.
The eurozone composite purchasing managers’ index (PMI) fell in its flash (advance) September reading from 51 to 48.9 points, returning to the contraction zone of activity (below 50) and marking the biggest single-digit fall in 15 months. The severe “hangover” of the PMI of French services after the splendor of the Paris Olympics this summer and the manufacturing PMI index from a Germany whose existential crisis in industry is only getting worse weighed on the euro zone indicators, suggesting dark clouds for growth.
“The eurozone is heading towards stagnation,” says Dr. Cyrus de la Rubia, chief economist at Hamburg Commercial Bank (HCOB) in charge of the PMI reports prepared by the entity and S&P Global. In addition to confirming the importance of the “slump” in French services after the Olympics, the economist is interested in the workings of European activity: “Given the rapid decline in new orders and the backlog, it does not take much imagination to predict a further weakening of the economy.”
“The manufacturing sector is getting more complicated month after month. The recession has now lasted 27 months and even worsened in September. Looking ahead, the sharp decline in new orders and the increasingly gloomy outlook for companies in terms of production suggest that this dry spell is far from over,” warns De la Rubia. Likewise, he points out, the manufacturing labor market is suffering, with employers cutting jobs at the fastest pace since August 2020.
At the same time, employment growth in the services sector slowed for the fourth consecutive month and is now almost flat. “We expect official euro area employment figures, which have remained stable so far, to deteriorate in the coming months, although demographic trends should provide more stability than in previous recessions,” the analyst concedes.
Expanding the view on how these data affect monetary policy expectations, De la Rubia is clear: “With the ECB keeping a close eye on still-high services inflation, news that input price inflation and output prices are slowing is certainly welcome. Added to this is the deepening recession in manufacturing and the near-stagnation in the services sector, the possibility of a further rate cut in October could very well be on the tableeven if this is not yet the market’s expectation.” The interpretation that is beginning to emerge is that ECB officials remain too concerned about inflation while disinflation is solid and growth is increasingly deflated.
Analysts agree that Monday’s data will fuel the debate, both on a final cut in October and on a possible “giant” cut in December that would somewhat affect the ECB’s communication. “The weakness in eurozone PMIs is likely to strengthen the case for faster or broader cuts by the ECB. Only eight basis points of cuts were priced in at the October 17 meeting, but markets are expecting 42 basis points by the end of the year. which represents a risk of falling to 50 in December“, specifies Frederik Ducrozet, economist at Pictet.
“The slowdown in economic growth is giving wings to the doves of the ECB Governing Council. Even though monetary authorities consider inflation to be virtually defeated, the focus should increasingly shift to the weakness of the economy,” agrees Vincent Stamer, strategist at Commerzbank. Moreover, the recent drop in oil prices gives the ECB room to lower rates without running an excessive risk of reigniting inflation. Crude oil is trading in the $74 area, about $13 below its July highs.
Euro falls sharply
On the foreign exchange market, operators are aware of the internal struggle within the ECB (there are still those who defend maintaining high interest rates) which is reflected in a euro that has appreciated in recent weeks against the dollar. The drop in “jumbo” rates in the United States has generated some weakness in the “greenback” against the euro, which appreciated by around 3% during the summer.
However, after the disappointing data presented this Monday by the PMIThe euro began to correct sharply against the dollar, depreciating by almost 0.7% and losing $1.11 per unit of the European currency. This is the biggest drop in the euro against the dollar since the critical week in August, when markets fell on growing fears of a recession in the United States.
Debate within the ECB
Although today’s data seem to put on the table an upcoming eurozone interest rate cut or a double cut in December, Within the ECB, there is no consensus (for a change)Even as the economy and disinflation push for further reduction, underlying pressures remain that prompt “hawks” to fight for relatively high interest rates or at least delay reductions as long as possible.
Those who prefer to wait to announce a new cut argue that the European Central Bank will be better informed about the state of the economy and inflation at the last meeting of the year (already in December). a decision. Then there are other members who adopt an eclectic position and leave all doors open, as is the case of the Spanish members and ECB Vice-President Luis de Guindos.
“It is true that in December we will have more information than in October,” he assured the newspaper. Espresso in an interview, highlighting the new quarterly forecasts released then. “But, you know, we left the door wide open. We want to keep our optionality, and that will depend on how the data evolves.”
Consumer price growth in the eurozone has slowed (the eurozone is experiencing strong disinflation), although services inflation remains the “weak spot,” Guindos said, adding that this is because “wage dynamics have been quite high.” “There is some moderation now, but wages, or compensation per employee, have been growing at a pace of over 4%,” he said. He also stressed that “the September inflation data should look very positive because of base effects, but at the same time, in the last quarter of the year, inflation will increase because of base effects.”
“Given the magnitude of the inflationary shock, the correction it is undergoing is notable,” ECB President Christine Lagarde said in a speech in Washington, reported by the agency. Bloomberg. “But uncertainty remains deep”he added, arguing that the economy is undergoing “transformational changes” that the ECB must analyse and understand.
The truth is that the interest rate derivatives market is opening the door to a “double” cut (25bp plus 25bp) for the December meeting in the Eurozone. Of course, if the ECB decides to cut rates in October, the “giant” December move would lose everything, but for now, the expectations that are starting to form suggest that the ECB has the “pistol” of cuts ready to prevent a free fall. of the economy.
