Eurozone economy looks weak ahead of ECB decision

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The European Central Bank (ECB) is widely expected to lower interest rates today for the third time this year, bringing its policy rate to 3.25% as price pressures across the Eurozone fade rapidly. The move would mark the first back-to-back rate cut in 13 years, as the ECB shifts its focus from bringing down inflation to protecting economic growth.

The cut would also come at a time when central banks around the world push ahead with their easing cycles, and we expect this trend to continue, eroding returns on cash.

Slowing growth in the Eurozone may quicken the ECB’s policy easing. The final inflation reading for the Eurozone in September came in at 1.7% year over year, down from 2.2% in August and below the ECB’s forecast of 2.3% for the third quarter. The latest number followed a series of soft inflation releases from key member states in the region, and increases the risk of further weakness in the coming quarters. In addition, the most recent slew of business survey readings suggests a significant slowdown in growth, with the labor market likely coming under pressure. While the ECB’s mandate is focused solely on inflation, we believe policymakers could speed up the pace of interest rate cuts in the coming months amid easing price pressures and a stagnating economy. Following today’s reduction, we expect the ECB to further cut rates at every policy meeting from now to June 2025, totaling 125 basis points.

Additional cuts remain in the pipeline for the Federal Reserve. Recent economic data out of the US has been stronger than expected, prompting markets to debate the possibility of the Fed skipping a cut at the next two meetings. But we continue to expect another 50 basis points of cuts by the end of this year, and a further 100 basis points in 2025. Recent comments from Fed officials suggest that they are not placing too much weight on individual data releases, with inflation “definitely headed in the right direction.” Minutes of the Fed’s latest policy meeting also showed that policymakers acknowledged the restrictiveness of monetary policy.

The Bank of England and Asian central banks should also follow up with further rate reductions. British inflation slowed more than expected in September, with the headline figure of 1.7% marking the lowest reading since April 2021. While services inflation remains above where the Bank of England (BoE) would have liked it to be, it has moderated nonetheless. We believe a second interest rate cut is in store for the BoE in November. Elsewhere in Asia, both South Korea and Thailand kicked off their rate-cutting cycles this month, following a similar move by the Philippines in August and Indonesia last month. The Philippines moved to cut by another 25 basis points this week, and we see further rate reductions in Indonesia, the Philippines, and Thailand before year-end.

So, investors should avoid holding excess cash, money-market holdings, and expiring fixed-term deposits. We think bond ladders, medium-duration investment grade bonds, diversified fixed income strategies, and equity income strategies can all play a role in sustaining portfolio income.