The ECB could accelerate its rate cut cycle if the evolution of the French elections tightens financial conditions, according to ‘Bank of America’.
Bank of America predicts that the European Central Bank (ECB) could accelerate its interest rate cuts if the french elections cause an increase in market risks.
“The main risk from here is if the French events end up causing a persistent tightening of the financial conditions and a sustained shock of uncertainty,” wrote the economist of ‘Bank of America‘ Rubén Segura-Cayuela in a recent note.
Bank of America warns that a larger impact from the French elections could lead to a weaker euro zone growtha faster deflation and a more accelerated ECB rate cut cycle.
‘Bank of America’ outlook for the euro zone
Although the general economy of the euro zone behaved largely as expected, the variations between the member states were evident, according to Bank of America.
The investment bank has revised its forecasts slightly upwards. Eurozone growth by 2024, from 0.5% to 0.6%. However, this global figure conceals a downward revision for Germany, offset by a Higher-than-expected growth in Italy and Spain. On the other hand the eurozone growth by 2025 has been revised downwards from 1.2% to 1.1%.
“The underlying growth outlook remains one of weak growth, but slowly improving,” stated Rubén Segura-Cayuela. Looking ahead, the key themes for the bloc remain unchanged: recovery of real income should support consumer spending, but much of the positive surprises ahead will likely come from economic improvements global.
Segura-Cayuela points out that the US economy has consistently outperformed that of the euro zone in terms of growth and inflation, a trend that will probably continue. This divergence is fundamentalsince it highlights the different trajectories of the monetary politics between the Federal Reserve and the ECB.
Bank of America maintains inflation will likely reach its target in early 2025, but warns of a persistent subsequent overshootdriven by the weakness of energy prices. The institution’s forecasts for general inflation stand at 2.3% for 2024 and 1.5% for 2025, while core inflation it is expected to be 2.5% in 2024 and 1.8% in 2025.
“We continue to believe that chronic insufficiency of aggregate demand and a persistent output gap that will not close even in 2026, along with a policy mix excessively restrictive, will contribute to underutilization,” commented Segura-Cayuela.
Impact of ECB rate cuts and uncertainties of the French elections
In its analysis, ‘Bank of America’ anticipates a total of 75 basis points of ECB rate cuts in 2024 (with 25 basis points already applied in June) and 125 basis points in 2025.
The evolution of the data suggests that the ECB may have to speed up your cutting cycle rates more than currently planned, with the aim of placing the type of deposit by 2% in the second half of 2025.
It is expected that the cycle of ECB easing, which began in June, be slightly longer. Initial cuts are planned 25 basis points every two meetingsto move to cuts at each meeting starting in March 2025.
However, “if events in France cause persistent hardening of the financial conditions throughout the region, that could easily lead to the acceleration of the cut cycle at the end of 2024,” warned Segura-Cayuela.
‘Bank of America’ long-term view suggests rate cuts are likely to continue beyond 2025. It is believed that the neutral rate will be below 2%, similar to the pre-pandemic levels. However, the 2% rate will be a critical pause point for the ECB until data confirms that this rate remains restrictive.
Overall, Bank of America analysis suggests the Frankfurt ECB is willing to accelerate rate cuts if market conditions worsen due to increased political riskss, with the aim of mitigating the growing risks of fragmentation within the euro zone.
