PGIM Fixed Income: Euro area interest rates appear to have peaked

PGIM Fixed Income: Euro area interest rates appear to have peaked

Katharine Neiss (photo archive PGIM Fixed Income)

Katharine Neiss, Chief European Economist at PGIM Fixed Income, responds to today's ECB's intereste rate decision.

'The ECB delivered a 25bp hike as expected at their July meeting, but the tone was much more open-ended and dovish than expected. The notable shift in tone relative to the ECB’s June meeting acknowledges the recent weak data flow. As a reminder, GDP growth in Q1 was weak across the board, signalling weak demand both domestically and externally via euro area exports. The purchasing managers indices for Q2 and more recently July, show a rapidly cooling econonmy, with manufacturing already in contraction and services coming off as well.

Yes, near term momentum in underlying inflation remains elevated, but an economy cannot defy gravity, and eventually weaker activity will translate into lower domestically generated inflation. Moreover, the latest ECB bank lending survey suggests there is more to come as a result of tightening credit conditions weighing on demand.

Markets will be relieved by the prospect that the risk of the ECB overtightening has receded. Based on what we are hearing from President Lagarde today, it looks like rates have peaked in the euro area. That said, don’t expect rate cuts anytime soon, at least until the ECBs sees a more consistent and compelling reduction in near term momentum of underlying inflation.'