ECB chief economist warns markets against pricing in rate cuts within the next two years

European Central Bank chief economist Philip Lane warned markets on Tuesday against cutting interest rates in the next two years.

Earlier this month, the European Central Bank raised its key interest rate by 25 basis points to 3.5%, the latest in a series of hikes since July 2022, as policymakers struggle to curb record-high inflation in the euro zone.

Headline inflation in the EU was 6.1% in May, down from 7% in the previous month. Core inflation, which strips out volatile food and energy prices, was 5.3%. Both were well above the ECB’s 2% target.

Speaking to CNBC’s Annette Weisbach on Tuesday at the central bank conference in Sintra, Portugal, the former Irish central bank chief said the euro zone economy is in an “adjustment phase” as interest rates rise and wages try to catch up. Prices are rising. .

“I do think the question the market should be asking itself is the timing or speed of reversing restrictive policy,” Lane said.

“We’re not going to get back to 2% for a few years. Even this year, especially the second half of this year, we’re going to make good progress, but not drop to 2% for a few months.”

His comments echoed those of ECB President Christine Lagarde, who said in her keynote speech on Tuesday that the central bank had made “significant progress” but was “not yet in a position to declare victory”.

Since July 2022, the ECB has raised interest rates by 400 basis points. Markets have priced in a 25 basis point rate hike next month and are considering further hikes in September, but some economists speculate that the ECB may have to reverse monetary tightening as higher rates push the bloc’s economy into recession. reverse.

Earlier this month, the Fed opted to pause its rate hike cycle, leaving its target rate unchanged. It has struck a hawkish tone in an effort to head off further rate hikes this year.

Lane suggested that policymakers need to stay the course and keep monetary conditions capped for some time.

“We’re going to go through a sustained period where rates need to remain restrictive to ensure there aren’t any new shocks that take us away from 2 per cent, and the persistence of restrictiveness is very important,” he said.

“When I look to the next few years, I don’t see rapid rate cuts, so I don’t think it’s appropriate to factor in rapid rate cuts.”