Central Banks Near Peak Interest Rates, Inflation Target Delayed Until 2025
Central banks in major economies are nearing the highest level of interest rates they will implement, with the European Central Bank (ECB) signaling that rates may have reached their peak. The ECB recently raised its key rate to a record high of 4%, acknowledging that rates at this level could contribute to the timely return of inflation to the target. However, achieving the central banks’ 2% inflation target is not expected until 2025.
The ECB’s short-term inflation outlook remains bleak, with inflation projected to average 5.6% this year and 3.2% next year for the euro area. While the medium-term outlook for 2025 was adjusted slightly down to 2.1%, analysts are now focused on how long interest rates will remain at the current level.
Economists anticipate a pause in rate hikes, with some projecting no rate cuts until September 2024, implying a 12-month plateau at 4%. However, challenges persist, such as the potential impact of higher oil prices on inflation expectations in Europe and the United States. Rising crude futures have already reached a 10-month high, potentially affecting goods costs.
Despite the consensus that the ECB is nearing the end of its hiking cycle, there is an alternative scenario in which inflation remains strong and persistent, suggesting the possibility of further rate hikes. Raphael Thuin, head of capital markets strategies at Tikehau Capital, highlighted the risk of unfinished inflation battles leading to additional rate hikes, particularly if prices do not display a convincing downward trend.
In the United States, the Federal Reserve Chair Jerome Powell has made it clear that further rate hikes are on the table. However, the Fed does not expect inflation to reach 2.1% until 2025, based on its June forecast. Although monthly data indicates ongoing price pressures, markets widely anticipate the Fed to hold rates steady in September, with divided opinions on the possibility of another hike this year.
The Bank of England, facing inflation of 6.8% and signs of a potential mild recession, is expected to implement one final hike in September. The Monetary Policy Committee aims for inflation to reach its 2% target in early 2025. However, weak GDP data for July has cast doubt on the necessity of interest rate hikes.
In summary, central banks are reaching their highest interest rate thresholds, but inflation targets are not expected to be achieved until 2025. While the ECB and the Bank of England contemplate a pause in rate hikes, the risk of persistent inflation and unforeseen economic factors may still impact future monetary policy decisions. The Federal Reserve remains cautious about the potential acceleration of inflation if financial conditions ease, but markets anticipate rate cuts in the coming years.
