Can the ECB's easing cycle revive eurozone growth amid persistent inflation?

​​​March rate cut appears locked in amid eurozone stagnation

The European Central Bank (ECB) is widely expected to deliver a 25 basis point (bp) cut to its deposit rate at its upcoming meeting on 6 March, bringing the rate down to 2.50%. This would mark another step in the ECB's easing cycle as it attempts to provide stimulus to the struggling eurozone economy.

Recent economic data has reinforced the case for continued monetary easing, with the eurozone economy showing no growth in the fourth quarter (Q4) of 2024. This stagnation follows a prolonged period of weak performance that has left the bloc's recovery significantly behind other major economies.

The services sector, typically a reliable growth driver, has shown only minimal expansion in recent months. Meanwhile, the manufacturing sector continues to struggle with contraction, creating a challenging economic backdrop for ECB policymakers as they deliberate on appropriate monetary policy measures.

Market participants have fully priced in the March rate cut, with forex trading in the euro reflecting these expectations. The common currency has faced downward pressure ahead of the meeting as traders anticipate a widening interest rate differential with other major economies.

​Persistent inflation complicates policy decisions

Despite the clear economic case for loosening monetary policy, the ECB faces complications from persistent inflationary pressures. Services sector inflation has emerged as a particular concern, with prices rising at their fastest pace in ten months according to the latest data.

This inflation stickiness poses a significant dilemma for the central bank, which must balance its mandate for price stability with growing concerns about economic stagnation. The ECB's target of 2% inflation remains challenging to achieve consistently in the current environment.

Wage growth across the eurozone has remained relatively robust, contributing to ongoing service price pressures. ECB officials have repeatedly highlighted this factor as a key consideration in their deliberations on the appropriate pace of monetary easing.

The central bank faces the delicate task of calibrating its policy response to provide economic support without risking a resurgence of broader inflation. This challenge has created divisions within the Governing Council about how aggressively to cut rates through 2025.

​Market expectations for future rate path

Looking beyond the March meeting, market pricing suggests traders anticipate a series of additional rate cuts throughout 2025. Current expectations point to the deposit rate potentially reaching a range between 1.75% and 2.00% by year-end, reflecting an expectation of continued economic challenges.

These market projections indicate that traders expect the ECB to cut rates roughly once per quarter throughout the year. However, the pace could accelerate if economic conditions deteriorate further or inflation pressures show more significant signs of easing.

Investors have positioned accordingly, with bond markets pricing in this expected path of monetary easing. European sovereign bond yields have moved lower in anticipation of continued accommodative policy.

The anticipated rate path remains subject to significant uncertainty, particularly given the ECB's data-dependent approach. Incoming economic indicators and inflation readings will be crucial in shaping the central bank's decisions in the months ahead.

​Internal debate reveals diverging views on rate cuts

​Despite the market consensus for a series of rate cuts, internal debates within the ECB highlight diverging views on the appropriate monetary policy strategy. Some officials have advocated for a more cautious approach to easing, emphasising the need for careful assessment of economic data.

Belgian central bank governor Pierre Wunsch has been particularly vocal, warning against "sleepwalking" into excessive rate reductions. His comments reflect concern that premature or overly aggressive easing could limit the ECB's policy flexibility should economic conditions change unexpectedly.

The hawkish contingent within the Governing Council has emphasized that while March's rate cut appears warranted, subsequent decisions should be genuinely data-dependent rather than following a predetermined path. This group remains concerned about underlying inflation pressures.

Meanwhile, other ECB officials have pointed to persistent economic weakness as justification for a more sustained easing cycle. This split creates uncertainty about whether the central bank will deliver the full extent of easing that markets currently anticipate.

​Implications for the euro and European markets

The ECB's dovish shift has already impacted the euro, which has faced headwinds against major currencies like the dollar. Forex traders are closely monitoring ECB communication for signals about the future rate path, as this will likely drive currency movements.

European equities have shown a mixed response to the ECB's expected easing cycle. While lower borrowing costs generally support stock valuations, concerns about economic growth have tempered enthusiasm, particularly for sectors highly dependent on domestic eurozone demand.

Bond markets have responded more decisively, with yields on government debt across the eurozone declining in anticipation of continued monetary easing. The gap between European and US bond yields has widened, reflecting divergent monetary policy expectations.

Investors with exposure to European markets are navigating this complex environment carefully, weighing potential opportunities from monetary easing against the backdrop of persistently weak economic fundamentals using tools available through various trading platforms.

​Comparison with other central banks

The ECB's rate cut expectations stand in contrast to the situation facing other major central banks. While the Federal Reserve (Fed) began its easing cycle earlier, markets are pricing in a more moderate pace of cuts for the US central bank, reflecting stronger economic performance.

This policy divergence has implications for currency markets, with the EUR/USD exchange rate likely to remain under pressure if the ECB implements more aggressive easing than the Fed. Those engaged in CFD trading on currency pairs are closely monitoring these developments.

The Bank of England (BoE) finds itself in a somewhat similar position to the ECB, balancing growth concerns with persistent inflation. However, the UK has shown more economic resilience than the eurozone in recent quarters, potentially allowing for a more measured approach to rate cuts.

The divergent paths of major central banks create both risks and opportunities for traders and investors, with potential impacts across currency, equity, and fixed income markets as policy differences become more pronounced throughout 2025.

Economic outlook for the eurozone in 2025

The eurozone's economic prospects for 2025 remain challenging, with the expected series of rate cuts reflecting the ECB's concern about persistent weakness. Growth forecasts remain subdued, with most analysts expecting only modest expansion even with monetary support.

Manufacturing continues to face significant headwinds, including weak external demand and ongoing competitive challenges. The sector, once a cornerstone of eurozone economic strength, shows few signs of a meaningful recovery in the near term.

Services activity offers a somewhat brighter picture, though even here growth remains below pre-pandemic trends. Consumer spending has been constrained by the squeeze on real incomes from previous inflation, limiting the sector's ability to drive broader economic recovery.

While the ECB's easing cycle aims to support growth, monetary policy alone may prove insufficient to address the eurozone's structural challenges. Fiscal policy and structural reforms will likely need to play a greater role if the region is to achieve more robust and sustainable economic performance.