ECB’s Isabel Schnabel Advocates Gradual Rate Cuts Amid Inflation and Geopolitical Risks

ECB Nears Neutral Interest Rate, Prefers Gradual Approach
Isabel Schnabel, a prominent member of the European Central Bank’s (ECB) Executive Board, has stated that the ECB is approaching a neutral interest rate range of 2-3%, emphasizing the need for gradual rate cuts moving forward. While inflation remains persistent in the eurozone, Schnabel has rejected market expectations of aggressive rate cuts, stressing that such a move would not be suitable at this stage. She reiterated that the ECB’s priority is to maintain flexibility in monetary policy to address future shocks, including geopolitical risks and ongoing inflationary pressures.

“We’re now getting closer to neutral territory,” Schnabel said in an interview, highlighting that the current strategy is aimed at ensuring the eurozone economy remains stable while avoiding drastic rate changes. She warned that moving rates too quickly into an accommodative stance—rates below the neutral level—would not be appropriate, as it would reduce the ECB’s room for maneuver in the event of future economic disturbances.

Inflationary Pressures and Wage Growth Concerns
Despite signs of recovery in interest-sensitive sectors such as housing and loan demand stabilizing, inflation remains a key challenge. Services inflation in particular continues to hover around 4%, a level Schnabel described as problematic for the ECB’s goal of bringing inflation down to its 2% target by 2025. Wage growth, particularly in services, must slow for this to be achievable. While recent wage negotiations in Germany have shown signs of moderation, Schnabel indicated that more progress is needed in this area to avoid putting further upward pressure on prices.

Energy and food prices also continue to pose risks to inflation. Gas prices have recently risen again, and food prices have picked up as well. However, Schnabel expressed confidence that the disinflationary process is on track overall, as long as wage growth remains contained.

Geopolitical Risks: US Tariffs Under Trump’s Potential Return
Another major concern for Schnabel is the possibility of the return of US trade tariffs under a renewed Trump administration. She highlighted that financial markets are already reacting, with the euro weakening against the dollar as investors anticipate stronger US growth. Schnabel explained that tariffs could have mixed effects on inflation in Europe. On one hand, tariffs could increase inflation due to higher import prices, compounded by a weaker exchange rate. On the other hand, there could be a reduction in demand and a shift in trade patterns that might reduce inflationary pressures.

Europe’s export-heavy economies, particularly Germany, are vulnerable to these trade risks, and Schnabel pointed out that uncertainty surrounding US trade policy could undermine investment and consumer confidence. She stressed that this geopolitical uncertainty must be carefully managed to avoid further destabilizing the European economy.

Eurozone Economic Stagnation Amid Structural Weaknesses
Schnabel acknowledged the economic stagnation facing the eurozone, as evidenced by recent data showing a sharp contraction in business activity, particularly in France and Germany. The November Purchasing Managers’ Index (PMI) pointed to a weak economic environment, with Germany grappling with both cyclical and structural challenges. While some sectors, such as housing, are showing signs of recovery, the overall outlook remains grim, with stagnation prevalent across the region.

Despite these challenges, Schnabel expressed cautious optimism about consumption in the eurozone, noting that consumer spending has been stronger than expected in the third quarter. This suggests that consumption-led growth remains a plausible scenario, despite broader economic challenges.

Flexibility and Caution on Forward Guidance
Given the high level of uncertainty in global markets, Schnabel emphasized that the ECB must remain flexible in its monetary policy approach. She cautioned against tying the bank’s hands with rigid forward guidance, stating that the current environment, characterized by high geopolitical risks and volatility in energy prices, does not lend itself to fixed policy predictions. While she acknowledged the possibility of future changes to policy, Schnabel made it clear that she favors a gradual approach to rate cuts, maintaining a preference for caution in the face of an unpredictable global economic landscape.