ECB Interest Rate Prep

On Thursday the 5th of February at 08:15 ET, the ECB is set to release the results of their latest monetary policy meeting.
Here are some views on what to expect.

General Expectations
Expectation from Analysts and Market Participants forecast the ECB to keep the interest rate unchanged at 2.15% and the deposit rate unchanged at 2%. With the high and low ranges supporting this.

Investment Bank Commentary
Deutsche Bank
We expect the ECB to leave policy rates unchanged for the fifth consecutive meeting on 5 February. It would be wrong to characterise the February meeting as a non-event. The environment is marked by high uncertainty and two-sided risks. Understanding how the ECB is thinking about risks is important to gauging the path of policy going forward.
All else unchanged, the recent appreciation is disinflationary and reinforces the expected inflation undershoot. However, the scale of the impact depends on the circumstances. We consider the arguments. Given “novel” uncertainties, such as volatile geopolitics, the ECB is de-emphasizing the baseline in favour of a richer analysis of risks. Most Governing Council members see two-sided risks and we take a look at the macro arguments driving the hawkish and dovish wings at the ECB.

The fundamental uncertainties surrounding the outlook still hold, however. We expect the ECB to remain comfortable with 2% policy rates. The ECB is likely to emphasize an ability to be patient on the one hand – time and evidence is needed to assess the risk of sufficiently large and persistent deviations of inflation from target – and nimbleness on the other – the ECB’s willingness to take policy action in either direction as soon as necessary. In our baseline, the ECB is on hold at 2% through 2026 and the next move is a hike in mid-2027 driven by fiscal easing, a tight labour market and future inflation risks moving above target. This year, the risks are skewed towards further easing. Ultimately, we think domestic inflation will outweigh external disinflation – we see evidence of the fiscal easing starting to spur activity, but at the same time the external risks have increased. Domestic conditions vs external conditions is the key data battle to watch.

Unicredit
A stronger euro is unlikely to pose a major threat to the ECB’s baseline scenario. However, data dependency and a meeting-by-meeting approach provide the central bank with enough flexibility to act swiftly if medium-term price stability were jeopardized. We confirm our view that the deposit rate will remain at 2% until well into 2027. The ECB will almost certainly leave interest rates unchanged next week. Information available since the December meeting broadly confirms the central bank’s baseline scenario. Economic activity and the labour market continue to show resilience to the highly uncertain geopolitical environment, as do financial markets. The risk of an escalation of geopolitical tensions due to Greenland seems to have receded, and this removes an important threat to the outlook for the economy and markets in the near term. The expected small undershooting of the inflation goal in 2026-27 is unlikely to worry the ECB as long as the growth forecast is on track and core inflation (here, the ECB is increasingly focusing on ex-energy inflation as a main gauge) remains above 2%.

First, the latest episode of EUR-USD appreciation largely reflects broad dollar weakness, while the euro has not appreciated meaningfully versus other currencies. Accordingly, the trade-weighted EUR is up by only 1% over the last ten days, which argues for a limited negative effect on eurozone price competitiveness. True, the impact of the USD on the eurozone inflation outlook exceeds that implied by the USD’s weight in the euro trade-weighted basket, as a significant volume of commodity imports in the eurozone is invoiced in dollars. However, current USD weakness comes at a time when the prices of several commodities (including oil) have increased above the levels of the technical assumptions used for the ECB’s December forecasting round. In this environment, a weaker USD is unlikely to create sizeable disinflationary impulses.
Second, differently from the aftermath of “Liberation Day”, the latest leg of USD depreciation has occurred while financial conditions remain supportive amid resilient risk appetite, low volatility and tight credit spreads.
Third, economic expansion in the eurozone has surprised to the upside overall in recent quarters and is mainly attributable to domestic demand. The ECB forecasts that domestic demand will account for all the GDP growth it expects over the next two years. Other conditions remaining equal, economic resilience and growth composition increase the central bank’s pain threshold in terms of EUR appreciation.
Fourth, USD weakness has a small effect on the price component that keeps eurozone core inflation sticky above 2%, i.e. services inflation, which is mainly driven by wage growth. Following an upward revision to the path for compensation per employee in the December forecasts, the hawkish members of the GC are unlikely to regard the recent USD depreciation as a meaningful downside risk to price stability.

Overall, while the current level of EUR-USD probably does not pose a major threat to the ECB’s baseline scenario, uncertainty regarding future FX developments is likely to remain very high. From a risk-management perspective, starting verbal intervention is the right thing to do to keep the euro from appreciating too strongly and too fast, potentially entering dangerous territory for the central bank’s inflation objective. We expect ECB President Lagarde to stress that the ECB’s meeting-by-meeting approach provides the necessary flexibility to act swiftly if a shock were to jeopardize medium-term price stability. We continue to forecast that interest rates will remain unchanged well into 2027. Unless EUR-USD moves quickly towards 1.25, the probability of the market pricing in a 25bp cut will likely remain below 50%.