Is the European Central Bank (ECB) more at risk of lowering interest rates too late or too early? There is not only a lack of consensus within the ECB council but also among economists. This is not surprising, given the wide range of predictions for inflation and economic growth, which form the foundation for monetary policy considerations.

"The Eurozone inflation will fall significantly during the course of the year and steadily decline after the first quarter, ending 2024 near 2%," says Sebastian Dullien, Scientific Director of the Institute for Macroeconomics and Economic Research (IMK) of the Hans-Böckler Foundation, in a survey conducted by Börsen-Zeitung among economists. On the other hand, Commerzbank Chief Economist Jörg Krämer offers a different forecast. "The high wage increases suggest that inflation will settle closer to 3% than the ECB's target of 2%," he states.

In a study published in December, economists at Munich Re predict that inflation could still be at 3% by 2030. They argue that globalization, demographics, digitization, and deregulation have contributed to dampening inflation over the past decades. "Some of these factors are likely to reverse now," the study notes.

Most economists expect inflation to settle somewhere between 3 and 2% in 2024. However, uncertainty is high. Several factors could dampen inflation more or less than expected. "Due to the uncertainty about the speed and strength of monetary policy transmission, there is a certain risk that the economy and price pressures will be more dampened by the rise in interest rates than expected and necessary," says Fritzi Köhler-Geib, Chief Economist at KfW. Though she considers the risk "limited".

But there are also factors that could significantly strengthen inflation. "Given the wars in Ukraine and the Middle East, there is a risk that commodity prices will rise even more strongly," states Christoph M. Schmidt, President of the RWI - Leibniz Institute for Economic Research and former chairman of the "Wirtschaftsweisen". "This applies not only to oil and gas prices." Nonetheless, he currently expects that the further effects of the wars on inflation will be limited.

When looking at the economic outlook for the Eurozone, most economists are currently more pessimistic than the ECB, which forecasts economic growth of 0.8% for 2024. There are also voices within the ECB council that consider the central bank economists' projection too optimistic. An updated ECB forecast for inflation and economic growth is due during the next interest rate meeting in March. The new projections could provide hints on when the first ECB interest rate cut is imminent.

The ECB is rather reserved on this topic, although statements by council members suggest that there will be no easing before June, with interest rate cuts likely in the summer. While financial markets maintain speculation about the first interest rate cut possibly occurring by April, the majority of economists anticipate it happening in June.

Nonetheless, there are also economists who support a timely interest rate cut. Sebastian Dullien is particularly clear about it. "Any delay in an interest rate cut is now a monetary policy mistake," he notes, advocating for an interest rate cut at the upcoming ECB monetary policy meeting in March. He justifies his stance by stating that the economy will continue to perform weakly, and inflation will significantly decrease in the coming months. Dullien further argues that the last interest rate hike in September 2023 was already too much.

Jörg Krämer, who is significantly more pessimistic about inflation due to wage increases, has a completely different recommendation for the ECB. The central bank must be very careful with an interest rate cut, he says. Krämer points out that the International Monetary Fund (IMF) has studied inflation for many countries after the two oil price shocks of the 1970s. "Researchers found that the inflation problem was never solved when the central bank declared victory over inflation too quickly after a decline and lowered interest rates prematurely," says Krämer. "In this regard, I am concerned that the ECB might reduce its interest rates prematurely this time as well."

Portfolio Manager Konstantin Veit holds a similar view. Therefore, the Head of the European Rates and Short-Term Desks at asset manager Pimco believes that market expectations for interest rate cuts are excessively aggressive. "The historical experience of high inflation teaches us that if central banks try to normalize too quickly before the problem is genuinely resolved, we could face another wave of inflation followed by additional rounds of interest rate hikes", Veit explains. Such a second wave of interest rate hikes must be avoided by the ECB at all costs. In this case, for once, economists, council members and investors are in complete agreement on this. Veit believes that the ECB cannot yet have certainty about the medium-term inflation outlook. Hence, it is still too early for interest rate cuts.

While economists are already not very optimistic about the Eurozone economy, it looks even bleaker for Germany. "A new interest rate regime, high energy prices, years of erosion of location quality, diminishing tailwind from China – all this speaks for another contraction of GDP this year," says Krämer. IW Director Michael Hüther is also pessimistic and does not spare criticism for the current government:: "The problems are primarily homemade and endanger economic policy consistency." "Due to the changed budget situation following the Federal Constitutional Court ruling, there is a risk of a negative investment shock, which will also affect private investments."

Fritzi Köhler-Geib at least sees a "silver lining on the horizon." "The rebound in private purchasing power is expected to boost consumption throughout 2024, similar to the trends observed in the Eurozone."