ECB cuts rates again warns of trade war fears hurting European economy

The European Central Bank (ECB) has announced another cut in interest rates across the 20-member eurozone, reducing its deposit rate by a quarter of a percentage point to 2.5%. This marks the second rate cut this year as the region grapples with slowing economic growth and increasing trade tensions. Economists widely predicted this move, with concerns mounting over the effects of US-imposed tariffs on European exports. President Christine Lagarde cited a “high level of trade and policy uncertainty” as a key factor driving the ECB’s decision.

The Frankfurt-based institution downgraded its GDP growth forecast for this year to 0.9% from an earlier estimate of 1.1%, with growth projections for 2026 and 2027 also being lowered. Expectations for inflation, however, were slightly revised upwards to 2.3% from 2.1% due to rising energy prices. Lagarde highlighted the risks posed by recent volatility in global markets, stating that shifting energy prices and geopolitical concerns could delay the anticipated return of inflation to the 2% target by early 2026.

The ECB also adjusted other rates, reducing the main refinancing rate to 2.65% and the marginal lending facility rate to 2.90%, in a bid to make monetary policy less restrictive. Officials indicated they intend to assess the effect of this year’s six rate cuts before considering additional measures, which are unlikely until at least summer. Despite some recent progress in reducing inflation, Lagarde warned that energy price fluctuations could feed into higher food prices, complicating the outlook further.

New developments in Europe’s defence strategy have added another layer of complexity to the ECB’s decisions. German chancellor-in-waiting Friedrich Merz has pledged to lift Germany’s debt brake policy, aiming to channel significant investment into defence spending. This follows the European Commission’s ambitious €800bn programme to bolster defence capabilities and provide military aid to Ukraine. The announcement has caused a surge in borrowing costs, not just in Germany but also in France and Italy, prompting pressure on these governments to rebalance their budgets.

Mark Wall, chief European economist at Deutsche Bank, described the ECB’s current situation as a balancing act, as it faces opposing pressures of curbing inflation while preventing further economic downturns. Wall stressed the importance of careful policy adjustments to manage growth and inflation amid heightened economic and geopolitical uncertainties. The ECB now finds itself in a delicate position, navigating between immediate trade threats and the long-term needs of strengthening Europe’s fiscal and military frameworks.

The ECB’s next moves will likely remain cautious in light of unpredictable market conditions, geopolitical risks, and inflationary trends. Policymakers emphasised their commitment to ensuring stability while monitoring how recent changes impact the broader eurozone economy.