Bumpy interest rate paths

Step by step

Inflation data in both the eurozone and the USA were disappointing in the first few months of the year. This reduced expectations for interest rate cuts for this year by around 100 basis points for both currency areas. For the bond markets, this meant a continuation of the ups and downs that began in the summer of last year, and yields rose sharply.

Inflation rates in recent months have shown how erratic developments can be. At the same time, however, inflation rates have already fallen massively since peaking in 2022. For the ECB and the US Fed, however, it is important to achieve their target of an inflation rate of 2%, which is within sight but not yet achieved. In this volatile data situation, both central banks and therefore the markets are finding it difficult to determine the right time to cut interest rates.

The ECB and the US Fed will therefore continue to move from one set of data to the next over the coming months. It remains to be seen how the data will turn out. However, the environment suggests that inflationary pressure will ease in both the eurozone and the US. The ECB is very likely to cut interest rates in June. The US Fed is not yet ready. This is because the still robust economy makes the inflation outlook still too uncertain. Ultimately, however, we expect several interest rate cuts in both economic areas by the end of the year and beyond.

It is questionable whether the markets will find calmer waters as inflation subsides and interest rates fall. Trade conflicts could come to a head globally, especially after the US elections (in addition to domestic political conflicts) in November. Donald Trump is currently demanding not only a 60% tariff on imports from China but also a 10% tariff on all US imports, which would potentially cause tensions with the EU as well. For its part, the EU should learn lessons from the COVID pandemic for its trade policy and reduce dependencies, especially with China, and react to unfair competition (subsidized e-cars). However, international trade is highly complex and every measure triggers countermeasures. Quick fixes should therefore be avoided, especially as the EU benefits greatly from trade. The special section of this Interest Rate Outlook shows this, but also the dependencies.

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