Querying and Response - The ECB lowers interest rates for the first instance since the onset of the inflation surge.
Interest rate cutters beware: The overseers of the Euro are once again lowering interest rates in their battle against inflation within the Eurozone, following a string of rate hikes. The European Central Bank (ECB) has dropped the deposit rate, which banks receive for storing money, by 0.25 percentage points to 3.75 percent. The rate at which businesses can borrow fresh cash from the central bank is being reduced from 4.5 percent to 4.25 percent.
Why did the ECB hike interest rates so much earlier?
In July 2022, the ECB opted to end its long-standing policy of zero and negative interest rates in an attempt to tame inflation that had hit record highs. Ten consecutive times, the central bank raised rates before taking a break. The borrowing rate for banks from the central bank peaked at its highest level since August 2001. The deposit rate even hit its highest level since the inception of the currency union in 1999.
Is there a change of heart now?
In recent months, inflation has been trending downward, offering room for interest rate decreases. While higher interest rates can curb credit demand and high inflation rates, they're a burden for businesses and private investors. With the economy faltering and inflation rates dropping, calls for rate cuts have gained traction in recent months. The euro currency guardians have been priming the markets for a first rate cut in June for some time. As ECB Vice President Luis de Guindos recently stated in an interview, "a lot of talk is about a 25 basis point cut." And that's exactly what happened on Thursday.
What impact does a rate cut have on savers?
"If a rate decision is widely expected, prices will adjust in advance. This means: If the rate decision aligns with the general expectation, then nothing should really change, as it has already been factored into the prices," explained ECB Directorate member Isabel Schnabel in a chat with ARD Plusminus and tagesschau.de.
Those looking to invest money for a longer period of time will now receive lower interest rates from many banks. According to the comparison portal Verivox, the average interest rates for nationwide available fixed-term deposits with a one-year term were 3.34 percent in December. Today, they're at 2.98 percent, according to Verivox's calculations. Verivox evaluated the conditions of around 800 banks and savings banks for a 10,000 euro deposit (as of June 1, 2024).
And the trend is going down for daily interest rates as well: In May, the average interest rates for nationwide available daily interest accounts fell for the second month in a row to 1.72 percent. "The daily interest rates have passed their peak," says Oliver Maier, managing director of Verivox Finanzvergleich GmbH. Maier had predicted a steeper decline in interest rates before the ECB rate cut.
Mortgage interest rates linked to the yield on government bonds have also fallen: For ten-year loans, the rate was 3.66% per year (as of 3.6.2024), but by the end of October, it was above four percent. This makes real estate financing more affordable. "Anyone who takes out a mortgage today is paying less interest than a few months ago," explained Schnabel. "The market players expect interest rates to be lowered in June."
What direction will the ECB take from here?
"We are not committing ourselves to a specific interest rate path in advance," stressed ECB President Christine Lagarde on Thursday. Bundesbank President Joachim Nagel, as a member of the ECB Council, had previously emphasized that one could not deduce an "automatic pilot" from the first interest rate cut, suggesting that future rate cuts would have to follow. The ECB is targeting medium-term price stability in the euro area with an inflation rate of two percent. This is anticipated to be achieved by the central bank according to the latest projections in 2026.
The measured approach has garnered praise. "The worst-case scenario would be a further increase in inflation, which would force the ECB to withdraw too many interest rate cuts. This would damage trust and predictability," said Sparkassen President Ulrich Reuter. Economists like Andreas Bley from the Banking Association BVR expect at most two more rate cuts this year from September. However, monetary policy must remain vigilant and closely monitor the development of wages and service prices, especially in the euro area.
