What will the ECB say about the timing of interest rate cuts?

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When the European Central Bank meets this week in Frankfurt its policymakers will be only too aware that market expectations remain at odds with their thinking on the likely timing of interest rate cuts.

Several ECB governing council members, including president Christine Lagarde, made public comments last week signalling the earliest they expected to be able to decide whether to start lowering borrowing costs was this summer.

Bond markets responded by slightly reducing the amount of easing priced in this year by the ECB, but investors are still betting on an 80 per cent chance of a rate cut in April and 1.3 percentage points of total cuts this year.

Marco Valli, an economist at Italian bank UniCredit, said Lagarde “will certainly reiterate that the ECB is not ready to start discussing interest rate cuts,” and predicted an April rate cut would “only occur if an unexpected disinflationary shock” forces its hand.

Some economists think eurozone inflation could be stickier than expected due to the higher cost of shipping being diverted by attacks in the Red Sea, a resilient labour market pushing up wage growth and the recent easing of financial conditions. 

But others point to the fall in European wholesale gas prices to their lowest level in more than two years, a continued decline in goods producer prices, and weak economic growth — particularly in Germany — to argue inflation is likely to undershoot ECB forecasts.

“The rapid deterioration in activity at the end of last year has increased the risk that the ECB has overtightened in 2023,” said Katharine Neiss, an economist at investor PGIM Fixed Income. Martin Arnold

How is US economic growth holding up?

The US economy is expected to have expanded at a slower pace in the fourth quarter as high interest rates bite into business investment. 

The Bureau of Economic Analysis on Thursday is forecast to report that US gross domestic product grew by 2 per cent in the three months to December, according to a Bloomberg survey of economists.

That would mark a significant slowdown from the 4.9 per cent growth recorded in the third quarter, but is more in line with pre-pandemic averages.

While high borrowing costs may be deterring business investment, analysts at Deutsche Bank say that growth is likely to have been driven by strong consumer spending. US retail sales for December, published this week, outstripped expectations and rose at the fastest pace since September.

On Friday the BEA also will release December’s core personal consumption expenditures index, which is Federal Reserve’s preferred measure of inflation.

The core PCE deflator is expected to have risen 3 per cent year over year, compared with 3.2 per cent in November. That slowdown would mark the slowest pace of inflation in nearly three years and would be a welcome sign of easing price pressures for the Fed when it next meets at the end of January. Kate Duguid

Is the Bank of Japan ready to tighten monetary policy?

Investors are confident that the Bank of Japan will maintain interest rates below zero on Tuesday, given slowing inflation and the mixed outlook on corporate wages. 

BoJ governor Kazuo Ueda disappointed the market in December by offering no hint on when it would unwind its ultra-loose monetary policy. One focus for next week’s meeting is whether the central bank will change its forward guidance on rates and remove its pledge to stick with its easing measures “as long as it is necessary”.

But the BoJ is unlikely to be in a rush to change its policy, say analysts, especially because of falling consumption and the economic fallout from the powerful earthquake that struck the west coast on New Year’s Day. 

Consumer prices excluding fresh food rose 2.3 per cent in December from a year ago, according to government data released on Friday, marking the slowest pace of inflation since June 2022. The BoJ also acknowledged in its quarterly report on regional economies that the outlook for wage growth was “uncertain”. 

“The overall approach that would make sense at this point in time is just to play it safe because we’ve just had the earthquake so if they were perceived as being too eager in terms of dialling back monetary support, that probably wouldn’t be a good look,” said Stefan Angrick, senior economist at Moody’s Analytics. 

Angrick still expects the BoJ to abandon negative interest rates in April: “They will find a way to get there . . . but what happens beyond that is the bigger question.” Kana Inagaki