ECB Preview: Any lift Lagarde provides to the Euro will likely be short-lived

April or June? That is the question for markets focused on the first rate cut from the European Central Bank (ECB). Fresh economic forecasts will serve as clues.

Here is a preview for the ECB decision, due on Thursday at 13:15.

Inflation is slowly falling

The European Central Bank has "one needle" in its compass – keeping headline inflation at 2%, in theory, regardless of core prices, which exclude the more volatile energy and food categories. The goal is near.

Eurozone inflation. Source: FXStreet

Early data for February showed the headline Harmonized Index of Consumer Prices (HICP) at 2.6%. Good enough? Not so fast, and the reason is higher core inflation. 

Underlying prices reflect the so-called "stickier" parts of inflation – costs of services that depend on wages. Employees' pay does not tend to fall fast, especially in Europe, where collective bargaining means salaries rise at a relatively fast clip. In turn, inflation prospects remain elevated.

At 3.1%, Core HICP worries some policymakers at the Frankfurt-based institution.

Eurozone Core HICP. Source: FXStreet

On the other hand, there are worries of a recession The Eurozone economies grew by a meager 0.5% in 2023, and uncertainty looms. Markets see that as a reason for the ECB to slash borrowing costs.

ECB decision and implications on the Euro

The bank is set to leave rates unchanged for the fourth time in a row. That is fully priced in, and the decision is unlikely to move the common currency. Alongside the statement, the ECB also publishes fresh economic forecasts.

If the ECB publishes upbeat forecasts for both growth and inflation, it would imply higher rates for longer, diminishing the chances of a rate cut in April. However, it would be hard for the bank to be too optimistic, especially about growth.

I expect moderate forecasts, which would be insufficient to rock the boat, leaving the scene to ECB President Christine Lagarde.

The French head of the German-based institution is set to sound hawkish, signaling a rate cut in April is unlikely. She could argue that the ECB needs to be more confident about falling inflation – taking a page from the Federal Reserve. One reason to wait for June would be that her staff publishes fresh forecasts only then.

Will markets buy this hawkish rhetoric? I expect some bullish reaction in the Euro, but some skepticism shortly afterwards. Worries about the ongoing wars in Ukraine and the Middle East join mediocre data in creating worries about a recession. 

Final thoughts

The ECB events tend to be a long slog with occasional fireworks that Lagarde triggers – intentionally or by making a verbal accident. I recommend trading with care.