ECB cuts interest rates by 0.25 percentage points after two years of hikes

European Central Bank makes first move lower interest rates after hiking them 10 times since 2022

Under president Christine Lagarde, the ECB had hiked rates 10 times in succession before today. Photograph: Kirill Kudryavtsev/AFP via Getty Images

The European Central Bank (ECB) has cut interest rates for the first time in nearly five years, providing a modicum of relief for mortgage holders in Ireland.

However, it warned that pricing pressures across the bloc remain strong principally because of “elevated” wage growth.

The Frankfurt-based central bank trimmed its key lending rate, the one that affects mortgage rates, by 25 basis points to 4.25 per cent, down from the record high of 4.5 per cent.

The quarter-point reduction, which had been heavily signalled in advance, will reduce the monthly repayments on every €100,000 of tracker mortgage debt by €12 to €13. That means the average tracker customer with €200,000 remaining over 10 or 15 years will save around €25 a month.

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Based on an updated assessment of the inflationary outlook, “it is now appropriate to moderate the degree of monetary policy restriction after nine months of holding rates steady,” the ECB said, noting inflation has fallen by 2.5 per cent since its last monetary policy change in September 2023.

However, it cautioned that “despite the progress” domestic price pressures remain strong as wage growth is elevated and therefore “inflation is likely to stay above target well into next year”.

ECB’s pivot on rates comes with uncertain outlookOpens in new window ]

The bank also revised its projections for both headline and core inflation, suggesting headline price growth across the bloc would average 2.5 per cent in 2024, 2.2 per cent in 2025 and 1.9 per cent in 2026.

Underlying inflation, which excludes energy and food, is expected to average 2.8 per cent this year, 2.2 per cent in 2025 and 2 per cent in 2026.

“We are determined to ensure that inflation returns to our 2 per cent medium-term target in a timely manner,” ECB president Christine Lagarde said.

Interest rates will remain high, even as the ECB starts cuttingOpens in new window ]

“We will keep policy rates sufficiently restrictive for as long as necessary to achieve this aim. We will continue to follow a data-dependent and meeting-by-meeting approach to determining the appropriate level and duration of restriction,” she said, leaving market analysts none the wiser as whether there would be a further interest rate cut in July.

Carsten Brzeski, an economist at Dutch bank ING, described the ECB’s rate cut as “one of the best-telegraphed moves in monetary policy history” but warned Frankfurt could be deterred by “negative inflation surprises”.

Markets have been pricing in another two rate reductions this year but the future path for consumer prices remains uncertain.

Smart Money: Interest rates will remain high, even as the ECB starts cuttingOpens in new window ]

The surprise uptick in euro zone inflation in May – it accelerated to 2.6 per cent – suggests it could prove stickier than expected, as has been the case in the US where the Federal Reserve has delayed its own cycle of rate cuts.

The increase in inflation last month was fuelled by price growth in the services sector which in turn was linked to wage growth. That worries economists as it raises the prospect of wage increases and inflation pushing each other ever higher. That scenario, known as a wage-price spiral, would make it much tougher to tame inflation.

Workers in several sectors are demanding better remuneration to make up for declines in real income over the past two years.

A key gauge of euro area wages, published last month, failed to slow as policymakers had hoped, suggesting price pressures, particularly in the services sector, may take longer to tame.

At the same time, the euro zone economy bounced back stronger than anticipated in the first quarter after dipping into negative territory at the end of last year.

The positive economic growth is seen as likely to keep upward pressure on prices, potentially making policymakers wary about reducing rates too quickly.

The ECB’s unprecedented hiking of interest rates between July 2022 and September 2023 – it lifted rates on 10 consecutive occasions – has contributed to bringing down the headline inflation rate from a peak of 10.6 per cent in October 2022 to 2.6 per cent last month.

Eoin Burke-Kennedy

Eoin Burke-Kennedy

Eoin Burke-Kennedy is Economics Correspondent of The Irish Times