No need to tighten, but too early to cut. How long will the ECB stay on pause?

Our guest blogger examines inflation and the ECB balance sheet.

More than a year into its tightening cycle, the European Central Bank opted not to raise interest rates at the October 26 monetary-policy meeting. The deposit rate stayed at 4 percent, the refinancing rate at 4.50 percent, and the marginal lending facility rate at 4.75 percent.?

This decision was widely anticipated. At the ECB’s previous meeting, it hinted that rates had reached a level that, if maintained for a sufficiently long period, could help bring inflation back to 2 percent. Additionally, in September, some board members expressed a preference for a pause.?

The decision was unanimous and was made amid a context of weak growth in the euro area and tightening financial conditions. And as the first chart shows, the “pause” also came as inflation follows an encouraging trend (though price increases remain above the 2 percent target).

Increasing geopolitical risk might also introduce greater uncertainty into the inflation outlook and further erode consumer confidence.

At its press conference, the ECB clarified that future monetary-policy decisions will remain closely dependent on economic data releases. They will guide both the determination of interest-rate levels and how long they stay elevated to bring inflation down to the target.

Since that meeting, eurozone inflation came in at 2.9 percent for October, falling more sharply than expected.?

Before its next meeting on December 14, the ECB will present new macroeconomic projections. For now, the market appears to believe in the continuation of the “pause.” It’s not pricing in further ECB rate hikes for coming months, and is instead starting to anticipate rate cuts from the second quarter of next year.?

The October 26 meeting made it clear that there was no imminent need for further interest rate hikes, but it’s still too early to discuss cuts. So the question remains: how long will interest rates stay at this level?

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