The euro-area economy’s sub-par performance is convincing the European Central Bank that it can further loosen the shackles on growth by lowering interest rates for a fourth straight meeting this week.
Data due Thursday, hours before policymakers in Frankfurt announce their decision on borrowing costs, will probably show gross domestic product rose by just 0.1% in the fourth quarter, down from 0.4% in the third, according to a Bloomberg poll.
Business surveys released last week by S&P Global generated some hope that a small revival may be feasible. But officials, increasingly confident that inflation is headed back to 2%, won’t be deterred — particularly as uncertainty, not least from the return of Donald Trump as US president, casts a shadow over firms and households.
“The risks to the euro-area economy are currently on the growth side, rather than inflation,” said Jari Stehn, chief European economist at Goldman Sachs. “The ECB can and should cut interest rates further to support economic activity.”
Drilling into the bloc’s 20 member states, Germany and France are largely responsible for the weakness as both navigate political upheaval. Preliminary German numbers this month estimated a fourth-quarter contraction of 0.1%. France probably stagnated.
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Elsewhere, Italy may register growth of 0.2%, while Spain — the region’s standout performer — is likely to have expanded by 0.6% after notching 0.8% in the third quarter.
Members of the ECB’s Governing Council, speaking in Davos and elsewhere last week, firmed up market bets that at least two more consecutive cuts in the deposit rate from its current level of 3% will materialize this week and in March. Analysts in a Bloomberg survey are also aligned on that prospect.
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One justification for expectations of monetary loosening is that, at current levels, borrowing costs continue to restrain economic activity. With confidence low and inflation poised to moderate further, this approach no longer seems necessary.
“The outlook for 2025 growth is lacklustre, but remains in positive territory — the concern is on competitiveness,” said Michala Marcussen, group chief economist at Societe Generale. “Given the present stance of the economy, a pace of 25 basis points per meeting seems appropriate.”
Two more cuts would take the ECB’s deposit rate to 2.5% — slightly above a range that President Christine Lagarde said can be regarded as neutral. This level — which neither restricts nor stimulates growth — is an important milestone for officials as they determine how much further rates should fall.
The challenge is that the threshold is hard to observe in real time. The majority of economists sees it between 2% and 2.25%, allowing the ECB to cut more after March. The median forecast is for rates to settle at 2%, though year-end predictions vary widely.
Much will hinge on Trump’s still-evolving economic agenda, and whether he makes good on vows to impose tariffs on European goods. ECB officials have lately emphasized that any adverse impact would be more visible in output than prices — underscoring the view that the US president won’t derail the euro zone’s cutting cycle.
“I’m more concerned about the likely negative consequences for growth in Europe than potential inflationary effects,” Slovak central-bank governor Peter Kazimir told Bloomberg last week.
But the fallout still largely depends on what’s ultimately put in place, according to Morgan Stanley economist Jens Eisenschmidt.
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“In our baseline, with only very limited additional tariffs, not far from what was implemented in 2018, the impact will be minor and concentrated in 2026,” he said. “If we were to get tariffs closer to what was alluded to during the election campaign, e.g. 10% universal tariffs on all imports from Europe, the impact would be much larger.”
Another issue is services inflation, which has defied a broader slowdown and is still stuck around 4%, though there’s hope that easing wage pressures mean firms will raise prices at a slower pace over the coming months.
The start of the year is crucial in this regard, as that’s when many prices typically reset. But S&P Global’s Purchasing Managers Index suggested officials must stay alert as price pressures built.
“Businesses indicate that they are pricing those higher costs through to the consumer,” ING economist Bert Colijn said. “While the biggest inflation risks have abated, this shows that upside inflation risks are not yet a thing of the past.”
