ECB drops interest rates by 0.25%

The European Central Bank (ECB) lowered its benchmark interest rates by 25 basis points overnight as inflation comes within its target levels.

The three key interest rates on the deposit facility, main refinancing operations and the marginal lending facility will become 2%, 2.15% and 2.40% respectively from June 11. Inflation currently sits around the 2% medium-term target.

Revising earlier estimates, the ECB now expects headline inflation to average 2% in 2025, 1.6% in 2026 and 2% in 2027.

"The downward revisions compared with the March projections, by 0.3 percentage points for both 2025 and 2026, mainly reflect lower assumptions for energy prices and a stronger euro," said the Governing Council, which oversees monetary policy.

Trade tensions sparked by Liberation Day, however, could throw a spanner in the works and derail its projections.

"A further escalation in global trade tensions and associated uncertainties could lower euro area growth by dampening exports and dragging down investment and consumption. A deterioration in financial market sentiment could lead to tighter financing conditions and greater risk aversion and make firms and households less willing to invest and consume," the Governing Council said.

Furthermore, it anticipates that trade tensions could lead to greater volatility and risk aversion in financial markets, which would weigh on domestic demand and would also lower inflation.

"By contrast, a fragmentation of global supply chains could raise inflation by pushing up import prices and adding to capacity constraints in the domestic economy. A boost in defence and infrastructure spending could also raise inflation over the medium term," the council said.

Principal Asset Management chief global strategist Seema Shah said while risks to growth remain tilted to the downside amid the ongoing trade war, several factors are keeping Eurozone growth resilient, including a solid labour market, robust balance sheets, and easing financial conditions.

"A pull-forward of activity ahead of the US tariffs has also buoyed growth in Q1 and is likely to provide some momentum through the rest of the year. Moreover, there have also been increased signs that inflation is likely to stabilise and move closer towards the ECB's 2% target as wage pressures continue to ease," Shah said.

In early May, the Bank of England (BOE) lowered its key interest rate by 0.25 percentage points to 4.25% on the back of progress on disinflation over the last two years and as previous external shocks recede.

"Progress on disinflation in domestic price and wage pressures is generally continuing. Twelve-month CPI inflation fell to 2.6% in March from 2.8% in February, close to expectations in the February Monetary Policy Report," the BOE said.