ECB to pause hiking rates on Sept 14; economists split on one more

By Prerana Bhat

BENGALURU (Reuters) - The European Central Bank will hold interest rates steady on Sept 14, according to a majority of economists polled by Reuters, but just under half expect one more rise this year to bring down inflation.

As economic activity in the 20-member bloc slows under the weight of the cumulative 425 basis points of hikes since July 2022, investors are betting now is time for the central bank to break its streak of nine consecutive hikes.

ECB President Christine Lagarde raised the likelihood of that happening when she said, unprompted, at the ECB's July news conference: "Do we have more ground to cover? At this point in time I wouldn't say so."

But with inflation unbudged at 5.3% in August, well above the ECB's 2% target, and underlying price pressures reducing only slightly, policymakers have reiterated that another hike was a possibility.

While a majority of economists, 39 of 69, in the Sept 5-7 poll predicted no change to the deposit rate on Thursday, 30 said the ECB's Governing Council would hike it by a quarter-point to 4.00%.

If realised, that would take the deposit rate to its highest since its inception in 1999.

Faced with mixed data, economists were nearly equally split on what would happen after the September meeting. Thirty-six of 69 respondents forecast the key interest rate to end the year at 3.75%, and 33 said 4.00%.

Interest rate futures are pricing in a roughly 65% chance of a pause in September but an over 50% probability of another rate rise by year-end.

"Officially, we are expecting the ECB will stay on the sidelines for the rest of the year, but right now, it is almost like a 50-50 coin toss," said Jennifer Lee, senior economist at BMO Capital Markets, adding there was not much clarity from the inflation data since the ECB last met.

"We were all excited looking for the next couple of inflation reports and always thinking for sure they are going to tell us what they (policymakers) are going to be doing in September, but both inflation reports have been of zero help."

The ECB's approach is dependent on incoming economic data, similar to the U.S. Federal Reserve. But a stronger U.S. economy compared to the euro zone makes the Fed's "higher for longer" rate mantra more likely.

That potential gap in interest rates leaves the euro vulnerable against the dollar, with the potential to add further upward pressure on prices by making imports more expensive.

Euro zone inflation, significantly down from a 10.6% peak last October, was expected to average 5.6% this year and 2.7% in 2024, remaining above the central bank's inflation target until at least 2025.

Stripped of volatile food and energy prices, core inflation was forecast to average 5.1% and 2.8% this year and the next, respectively, according to the poll.

The room for the ECB to hike again shrinks as the threat of a recession grows. Major economies like Germany - Europe's biggest economy - and the Netherlands already fell into a recession and most others have either barely grown or contracted.

Growth in the euro zone as a whole was predicted to be flat this quarter and at 0.1% on a quarterly basis in the next. It would average 0.9% in 2024, the poll showed.

The median probability of a recession within one year increased to 45% from 30% in last month's poll, although that was based on a small sample of forecasts.

"The real economy is weaker than expected and inflation is retreating as expected. Hence, the ECB can stay on hold and watch," said Luca Mezzomo, head of macroeconomic analysis at Intesa Sanpaolo.

"If it is just a soft spot, they will raise the key rates again. If instead it is the beginning of a deeper and more persistent slowdown, there will be no more hikes."

(For other stories from the Reuters global economic poll:)

(Reporting by Prerana Bhat; Polling by Vijayalakshmi Srinivasan, Anitta Sunil, Purujit Arun and Pranoy Krishna; Editing by Ross Finley and Sharon Singleton)