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Our views 15 September 2023

Potentially peak rates, while not calling peak rates

5 min read

The European Central Bank (ECB) hiked rates 25bp to “reinforce progress towards its target”. This was arguably a ‘dovish hike’ with plenty to support the idea that the ECB sees this as potentially the top.

However, I’d also describe them as still having a hiking bias and leaving the door firmly open to doing more… anchored by a continued data dependent approach. My central case at least is that this will end up marking the peak for ECB rates.

Going into the start of the week, consensus expectations were – just – for an ‘on hold’ / ’skip’ decision but with almost half of forecasters going for a 25bp hike. After a Reuters article yesterday claimed that, according to a “source”, the ECB would be raising their 2024 inflation forecast, a hike looked more likely than before. The decision made by the ECB was not unanimous, though President Lagarde said that it was supported by a “solid majority”.

ECB is seeing this as a potential peak

Supporting the idea that the ECB see this as potentially the peak for rates this cycle, first there was a key change in the statement.

From: “The Governing Council’s future decisions will ensure that the key ECB interest rates will be set at sufficiently restrictive levels for as long as necessary to achieve a timely return of inflation to the 2% medium-term target.”

They added a key sentence before this in today’s statement: “Based on its current assessment, the Governing Council considers that the key ECB interest rates have reached levels that, maintained for a sufficiently long duration, will make a substantial contribution to the timely return of inflation to the target.” [Author’s italics]

The forecast changes were arguably consistent with this marking the peak too. Although the ECB staff revised up their forecasts for inflation for 2023 and 2024 (on high energy prices), they lowered their forecast for 2025. They also revised down their profile for core inflation and revised down their forecasts for GDP growth “significantly”. Their forecast for Consumer Price Index in 2025 is now only very slightly above the ECB’s 2% target.

With wiggle room and a hiking bias

The inclusion in that key extra sentence of “make a substantial contribution to” implies to me that they think more hiking might well end up being needed. Given the strength of inflation in the Euro area, running with a hiking bias continues to make sense.

Consistent with having a hiking bias, both the staff forecasts for core and headline inflation in 2025 are above the ECB’s 2% inflation target (at 2.1% and 2.2% respectively). Lagarde clarified during the press conference that the forecasts only hit “around 2%” in the fourth quarter of 2025.

Very much leaving the door open for future hikes

By repeating the sentence from the previous statement that “future decisions will ensure that the key ECB interest rates will be set at sufficiently restrictive levels” and re-emphasising a data dependent approach, as well as verbally in the press conference putting some emphasis in that new sentence on the phrase “Based on its current assessment”, the ECB are clearly leaving the door wide open to future hikes.

Understandably too, Lagarde would not say that this was a peak: “We can’t say that now that we are at peak… ‘As long as necessary’ cannot be actually pinned down and the ‘substantial contribution’ cannot be either pinned down because it is every time an assessment we have to conduct.”

The worst in terms of activity is now?

On growth, Lagarde somewhat brushed aside questions on recession, of the downward revision in 2024 GDP growth she said that three quarters of it is attributable to carry over from 2023 and that “We are going through a period of five quarters of very, very sluggish growth.” She said the difficult times are now and the recovery they anticipated is pushed out. However, she also said that they are confident that growth will pick up in 2024. Given the weakness of recent business surveys, I’d argue that risks are firmly to the downside for their view on growth at least.

Definitely not thinking about cuts though

On a question about a cut, Lagarde said, “This is not even a word that we have pronounced.”


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