Our view is that the European Central Bank will deliver its first 25bp rate cut at the June meeting. Headline inflation in the euro area has fallen faster than expected, and services inflation, the ECB’s main worry, is finally easing. Wage growth is slowing as new pay settlements come in lower.
We think the Governing Council wants to see one more round of wage data before acting, which points to June rather than April. After the first cut, we expect a slow pace: one cut per quarter, taking the deposit rate down by 75bp over the year.
Positioning: we favour short-dated German government bonds (Schatz) and expect the euro to weaken modestly against the dollar as rate differentials widen.
Key risk: a rebound in energy prices that pushes inflation back up.