The European Central Bank (ECB) has introduced its second rate cut of the year, cutting interest rates by 25 basis points. Additionally, the central bank has lowered its full-year growth forecast to 0.8%, down from the previously projected 0.9%.
Andromeda Capital Management Co-Founder and Chief Investment Officer Alberto Gallo joins Catalysts to provide insight on these developments, noting the ECB is reluctant to pre-commit to a rate-cutting cycle it might not be able to maintain and "the last mile of inflation is still very tricky."
"I think bond markets (^TYX, ^TNX, ^FVX) are a little too hopeful here. We have to, at some point, trim back these expectations of rates going back to 3% in the US and 2% in Europe," Gallo tells Yahoo Finance.
As far as the differences between the US and European monetary policies, Gallo points out contrasting inflation drivers. The US is experiencing strong economic growth, while Europe's sticky inflation is primarily tied to commodity prices and wage pressures, among other factors.
The ECB, the European Central Bank today cutting interest rates by a quarter point, its second reduction of the year. Now, the bank also trimming its growth forecast for the full year to 8/10ths of a percent. That's down from the previous projection of 9/10ths of a percent. Joining us now, we want to bring in Alberto Gallo. He is Andromeda's Capital Management's co-founder and chief investment officer. It's great to have you here. So let's talk about what we're hearing from the ECB, nothing too worrisome just in terms of there was this fear maybe that we would, that we would get slightly hawkish commentary. That would be enough to spook the markets, but I'm curious as your reaction to Lagarde and then stretching that out to maybe what we could see next week from the Fed.
So there's two messages from the ECB. The first one is that they don't want to pre-commit to a cutting path. Uh, there's a lot of extrapolation in financial markets about, you know, after the first cut, about how many further cuts are going to come by any central bank, and they want to push back. And the second message is they see inflation as sticky. And normally, this second message would not worry financial markets and bond markets in particular, but we have seen, just seen data of sticky CPI in the US, sticky services inflation, you know, OER rent inflation, and also wages, you know, Boeing renegotiated a 25% salary increase with its employees, and even in the eurozone, you know, these wage negotiations are, you know, going about 5% year on year. So essentially the last mile of inflation is still very tricky and very sticky. And I think that central banks are right to worry and to push back against this, and probably we've got too many cuts um expected, not so much for this year but for next year. We've got, you know, a lot of cuts expected both in the eurozone and also in the US. And I think bond markets are a little too hopeful here. Um we have to at some point trim back these expectations of, you know, rates going back to 3% in the US and, you know, 2% in Europe.
Well, I'm interested in the idea of the stickier inflation on the margins, at least in Europe, particularly because they talked about the growth outlook and seeing weakening growth moving forward. How do you have both of those at the same time? Can you explain that?
Unfortunately, that scenario is called stagflation. It's not our base case, but in the US, the reality is stronger growth still there, and the US consumer is still pretty solid. If you think about what the Fed did, you know, they hiked to 5%, um but that interest rate is really the rate at which, unfortunately, only the bottom 25% of consumers is funding at. So essentially, you know, people that use credit cards and auto loans are hit by that 5% interest rate, and that's not great, while every household that had, you know, long-term mortgages, more wealthy households, are already funding at 2%. They have, you know, vintage, they have these vintage mortgages which are at 2%, and the same for corporations. Microsoft and Google are funding at, you know, old bonds that they issued at 1% or 2% yield when yields were very low. Remember we had 15 years of low yields. So that 5% rate didn't really hurt everyone the same way. And as a result, you know, 75% of the population and of the corporate universe are still okay despite that 5%. And at the same time, fiscal policy is very strong after elections, very, you know, very large amounts of spending. We're talking about 7% or near there. That's the CBO forecast for, for next year. So in the US, I would say, inflation is sticky because the economy is strong. In the eurozone, inflation is sticky because of commodity prices and other, other effects, which are still dragging on, on that inflation number. For example, wage negotiations, commodity prices, supply bottlenecks. The UK is a case in point, but even in the eurozone. And as a result, it's a little harder to go back to that 2%. But yes, the inflation problem in the eurozone, I think it's not as, as large, and the ECB will, you know, will cut later on in the year and also next year, but they want to keep some ammunition for, for emergency, which is, which I think is wise compared to, you know, cutting rates very, very deeply right now when the economy is still humming along, it's not in a recession.
Related Videos
For more expert insight and the latest market action, click here to watch this full episode of Catalysts.
This post was written by Angel Smith