Euro-Zone Inflation Cools as ECB Enters Final Phase of Cuts

The European Central Bank (ECB) has entered the final phase of its interest rate cuts, with the deposit facility rate being lowered by 25 basis points to 3.00% in December 2024. This decision was driven by the ECB's updated assessment of the inflation outlook, the dynamics of underlying inflation, and the strength of monetary policy transmission (ECB, 2024). The Governing Council acknowledged that the disinflation process is well on track, with headline inflation expected to return to its 2% medium-term target in the course of 2025. However, domestic inflation remains high due to wages and prices in certain sectors still adjusting to the past inflation surge with a substantial delay (ECB, 2024).

The ECB's recent interest rate cuts are gradually making new borrowing less expensive for firms and households, but financing conditions continue to be tight due to the remaining restrictive monetary policy and past interest rate hikes still transmitting to the outstanding stock of credit (ECB, 2024). The ECB is committed to ensuring that inflation stabilizes sustainably at its 2% medium-term target and will follow a data-dependent and meeting-by-meeting approach to determining the appropriate monetary policy stance (ECB, 2024).



The primary factors driving the cooling of Euro-Zone inflation are base effects, moderation in wage growth, profits buffering the impact on inflation, and the gradually fading effects of restrictive monetary policy. These factors are expected to evolve in the coming months as the base year changes, wage growth continues to moderate, profits normalize, and the effects of restrictive monetary policy fade. The ECB's commitment to follow a data-dependent and meeting-by-meeting approach to determining the appropriate monetary policy stance should help to ensure that inflation stabilizes sustainably at its 2% medium-term target.

The ECB's projections for inflation and economic growth in the Euro-Zone differ from market expectations, with the ECB projecting a slower recovery and lower inflation. This divergence has implications for investors, as it suggests that the ECB may continue to ease monetary policy, potentially leading to further rate cuts and bond purchases. This could result in lower yields on government bonds and other fixed-income securities, making them less attractive to investors. A slower economic recovery and lower inflation may also lead to a more cautious stance by investors, potentially impacting equity markets. However, the ECB's commitment to maintaining price stability and supporting the economy could also boost investor confidence in the Euro-Zone.

In conclusion, the ECB's entry into the final phase of interest rate cuts, driven by the cooling of Euro-Zone inflation, has implications for investors in the form of potential further rate cuts and bond purchases. The divergence between ECB projections and market expectations suggests that investors should remain vigilant and adapt their portfolios accordingly. The ECB's commitment to maintaining price stability and supporting the economy should provide a degree of reassurance to investors, but the ultimate impact on financial markets will depend on the evolution of inflation and economic growth in the Euro-Zone.