ECB December Rate Cut: Is Growth Priority Overcoming Inflation Credibility?

The eurozone stands at a pivotal crossroads where growth priorities collide with inflation credibility. September's inflation data revealed a stubborn 2.2% reading-up from 2.0% in August-despite the ECB holding its key rate at 2.0% on September 12. This decision, while consistent with the central bank's stated commitment to price stability, underscores growing tension between maintaining accommodative monetary policy and addressing persistent price pressures. The ECB justified the hold by pointing to resilient Q3 growth and a robust labor market, though officials warned that global trade disputes and geopolitical risks could prolong inflationary pressures, as noted in the ECB's September 12 decision.

Brokerage consensus reflects this divide. UBS and Goldman Sachs have fully discounted a December rate cut, projecting rates will remain steady through 2026, while J.P. Morgan, Barclays, and Morgan Stanley still see room for a 25-basis-point reduction. Market traders, meanwhile, price an 84% probability of no change until year-end, signaling a broader shift toward prolonged rate stability, as reported in the ECB's October 30 meeting. ECB President Christine Lagarde's recent remarks in Sintra offer a critical anchor: she acknowledged increased uncertainty but affirmed that inflation is "moving in the right direction," framing temporary setbacks as part of a broader path toward 2% equilibrium, as noted in the ECB's Sintra speech. This rhetoric suggests policymakers prioritize growth risks-especially amid weak Eurozone industrial output and subdued consumer confidence-over aggressive rate hikes.

Yet the thesis hinges on inflation remaining contained. If fourth-quarter data shows core inflation persistently exceeding 2.3%, the ECB's growth-first approach could unravel. Such a scenario would force policymakers to confront a painful trade-off: either risk reigniting stagflation fears by tightening policy or risk losing credibility with persistent price pressures. For now, Lagarde's framing provides cover-but the clock is ticking.

The ECB's March 6 decision to lower rates by 25 basis points reflects a calculated pivot toward growth support, even as inflationary headwinds linger. With the eurozone's GDP forecast slashed to just 0.9% for 2025, policymakers face a narrowing policy window: cutting rates now aims to preempt deeper economic stagnation while avoiding premature easing that could reignite inflation. The Governing Council's data-dependent approach-explicitly rejecting pre-commitment to future moves-underscores its focus on balancing two competing risks. On one hand, persistent core inflation near 2.2% in 2025 (excluding volatile energy and food) suggests pricing pressures remain entrenched, potentially fueling wage-price spirals if unaddressed, as noted in the ECB's March 6 decision. Yet the deposit facility rate, now at 2.50%, signals a shift toward "meaningfully less restrictive" policy as staff projects headline inflation converging toward target levels by 2026-2027, as reported in the ECB's March 6 decision.

This measured path reflects lessons from past monetary tightening cycles, where premature rate hikes exacerbated growth fragility. The March cut's rationale hinges on the ECB's recognition that disinflation is proceeding "closely to staff expectations," despite upward revisions to 2025 inflation due to energy price surges, as noted in the ECB's March 6 decision. By pacing rate reductions meeting-by-meeting, policymakers aim to avoid both overshooting on inflation control and underdoing stimulus during a period of export weakness and investment uncertainty. The 0.9% growth forecast, while bleak, may yet improve if accommodative policy stimulates domestic demand-particularly as the eurozone's penetration rate into emerging markets for green-tech supply chains accelerates, as noted in the ECB's March 6 decision.

Still, core inflation's resilience remains a wildcard: if wage negotiations gain momentum, the ECB's gradualist strategy could face strain, testing the limits of its "meeting-by-meeting" discipline.

The ECB's stubborn inflation data has become the central backdrop for near-term rate expectations, reshaping valuation assumptions for risk assets. With September's 2.2% eurozone inflation reading holding stubbornly above target, the central bank's October 30 meeting confirmed its hawkish pivot-refusing to alter the 2.0% deposit rate despite growth cooling to 0.2% in Q3, as noted in the ECB's October 30 meeting. This resilience, backed by a still-solid labor market, has pushed global brokerages to extend their rate-hold outlook into 2026, as reported in the ECB's October 30 meeting.

The market currently prices an 84% probability of no rate change through December, a consensus shift that now dominates valuation models. Traders have priced out December cuts entirely, with UBS and Goldman Sachs leading the retreat from earlier dovish bets, as noted in the ECB's October 30 meeting. Only J.P. Morgan, Barclays, Morgan Stanley, and Wells Fargo maintain December cut expectations, citing lingering core inflation uncertainty, as noted in the ECB's October 30 meeting. This divergence creates a binary near-term catalyst structure: November's CPI report on the 15th will be the primary determinant, with any reading above 2.3% triggering a reassessment of the base case.

For equity valuations, this scenario framework translates into distinct EPS impact ranges. The bull case (probability 30%) assumes November inflation surprises below 2.0%, triggering accelerated rate-cut bets that could lift EPS multiples by 8-10% through December. The base case (50% probability) maintains the 84% no-cut consensus through year-end, implying modest EPS headwinds of 3-5% from persistent rate sensitivity. The bear case (20% probability) incorporates a December rate cut-catalyzed by November inflation exceeding 2.3%-which could depress EPS by 12-15% as discount rates rise and growth expectations weaken.

The labor market's persistence explains why rate cuts aren't imminent despite inflation above target. ECB officials emphasized that unemployment remains below 6.5% with wage growth decelerating only marginally, suggesting policymakers view current pricing pressures as transitory, as noted in the ECB's October 30 meeting. This creates a critical tension: while inflation remains elevated, the absence of labor market deterioration has removed the traditional catalyst for rate cuts. The December 10 staff projections will be particularly telling-if they maintain current rate paths despite November inflation data, it would confirm the ECB's willingness to tolerate above-target inflation for longer than markets anticipated, as noted in the ECB's October 30 meeting.

For investors, the valuation waters remain choppy until these catalysts resolve. The key risk isn't necessarily a December cut-it's the possibility that November inflation fails to show meaningful cooling, forcing the ECB to maintain its restrictive stance into 2026, as noted in the ECB's October 30 meeting. This would extend the period of higher discount rates that currently weigh on growth stocks and commodities, potentially triggering reprricing across multiple sectors.