Market reduces interest rate bets, European Central Bank disagrees! Officials insist on cutting interest rates four times by June.

The European Central Bank is refuting some investors' views - investors believe that strong inflation, a reduced pace of interest rate cuts by the Federal Reserve, and economic turmoil brought about by Trump will narrow the space for interest rate cuts. Although the market has lowered expectations for the number of interest rate cuts by the European Central Bank and the Federal Reserve this year, European Central Bank officials remain unmoved. European Central Bank Governing Council members, Bank of France Governor Villeroy and Bank of Greece Governor Stournaras, reiterated their long-standing view that by mid-2025, the deposit rate will be reduced from the current 3% to around 2%. This could mean that the bank will announce an interest rate cut at every meeting in the first half of the year. Currently, they are considering the increased uncertainty in policy prospects, which mainly comes from U.S. trade policy, as well as a more hawkish stance from the Federal Reserve and political turmoil in Germany and France. Although the European Central Bank still has the possibility of changing course, it is unlikely to do so at least until after digesting the quarterly forecasts released in March, which will reflect the initial impact of Trump's actions since taking office. Gilles Moec, Chief Economist at Axa Investment Management, said, "The market often reacts too quickly, and both the European Central Bank and the Federal Reserve will strive not to overreact to single data points. Since Trump took office, we should better understand the 'conversion rate' from his campaign proposals to policy implementation." European Central Bank President Lagarde promised in December to continue to follow a "data-dependent, meeting-by-meeting approach" when setting interest rates. Since then, data in Europe has hardly deviated from expectations. Although some traders may already be focusing on recent increases in inflation, the European Central Bank had already predicted a rebound in inflation by the end of last year. Analysts at the European Central Bank believe that overall price growth will progress as expected, and they expect a relief in the pressure of wage increases by 2025. Meanwhile, even before Trump began imposing tariffs, the eurozone economy was still struggling. In fact, developments in the U.S. may explain why the market has only priced in three 25-basis-point interest rate cuts by June one less than at the beginning of 2025. Firstly, the U.S. labor market continues to ignore predictions of a slowdown. Trump's tax cuts and immigration policy prospects may also keep inflation high. In December, Federal Reserve policymakers reduced their expected number of interest rate cuts in 2025 from 4 times to 2 times. Traders now believe there will be only one rate hike this year, and economists including those from France's BNP Paribas and Nomura Asset Management are even doubtful about the next step. This reignites a debate that has been ongoing since 2024 about how much policy divergence there can be between the European Central Bank and the Federal Reserve. Like back then, European Central Bank officials such as Croatian National Bank Governor Vujcic quickly refuted claims that they are excessively influenced by their American counterparts' actions. Barclays Head of Economic Research Christian Keller said, "A cautious Federal Reserve will not prevent the European Central Bank from further cutting rates. The European Central Bank will want to closely monitor the exchange rate, avoiding significant and sudden depreciation, but in principle, it will not avoid cutting rates." Since September 30th, the euro trade-weighted exchange rate has fallen by about 3%, while the euro has dropped by over 8% against the dollar, dangerously close to parity. The last time it broke this level was in 2022 when the Russia-Ukraine war broke out, leading to soaring energy prices. Ludovic Subran, Chief Economist at Allianz, said that while a weaker euro could bring new inflation risks, they may be limited; given the looming trade war, the European Central Bank may focus more on economic growth issues. Bank of Finland Governor Rehn said on Monday, "In the context of inflation moving in the right direction and weakened growth prospects, continuing to cut rates makes sense," the extent and pace of rate cuts will be determined by the data to be announced soon. Although there are warnings that if borrowing costs remain at excessively high levels for too long, price increases may sharply fall below the target, investors may still need more convincing to believe that the European Central Bank will deliver on the many hints of four rate cuts by policymakers. Pooja Kumra, Senior Rates Strategist for Toronto Dominion Bank in the UK and Europe, said, "The market expects to hear similar comments from Rehn and other doves. But we need to see more hawkish officials like Lagarde and Schnabel take a similar stance to see a change in market pricing." On Tuesday, hawkish European Central Bank official Holzmann was unwilling to do so. Although he is known for taking extreme positions, he said it is not yet clear what the European Central Bank will decide at its next policy meeting on January 30th.