Portugal's central bank chief, Mario Centeno, is currently deviating from the norm. While his colleagues in the ECB Council publicly criticize market expectations of the European Central Bank's (ECB) first interest rate cut in spring, he provides investors with new fodder for their speculations. His main concern at the moment is that the ECB might do "more than necessary to control inflation."

In other words, after underestimating the rise in inflation for a long time and raising interest rates too late in 2022, according to Centeno, the ECB now faces the risk of easing too late. The consequence would be that the struggling economy of the Eurozone is more severely choked by high interest rates than necessary. Additionally, in such a scenario, inflation would fall below the central bank's 2 percent target.

Centeno can present arguments for his viewpoint. In most months of the past year, the inflation rate declined more than economists had expected. The ECB's current projection anticipates an inflation rate of 2.7% in 2024, along with an expected economic growth of 0.8%. There are reasons to believe that this is an overly optimistic forecast given the economic and structural problems of the Eurozone. There is also some skepticism within the ECB Council regarding their own forecast, as revealed in the minutes of the December meeting. Several council members can envision a weaker economy, which would lower inflationary pressures, possibly causing inflation to fall to 2.0% faster than anticipated.

Should the ECB shift course and consider an initial interest rate cut in the spring? No, that would be a mistake. There is much more evidence that the time is not yet ripe for an interest rate cut in the coming months. Fiscal effects, such as the value-added tax increase for the gastronomy sector, will keep inflationary pressures high at the start of the year. While inflation may decrease somewhat in the coming months, there will not be significant declines. The substantial progress in 2023 was largely due to extremely high energy prices the previous year.

A significant decline in the inflation rate last year was therefore not a challenge. Energy prices simply fell significantly in year-on-year comparison, massively dampening inflation. This base effect comes to an end now, as the prices of 2023 will be the reference for calculating the inflation rate with the beginning of the new year. Core inflation indicates that the path to the inflation target is still far off. Although inflation is currently decreasing and should continue to do so in 2024, it is currently at 3.4%, which is too high to align with the ECB's price stability target.

Moreover, there are currently numerous external risks to inflation. The Houthi attacks on freight ships in the Red Sea disrupt world trade. The result is higher logistics costs and disruptions in supply chains as shipping companies increasingly take detours to circumvent the Suez Canal. If this situation persists, higher production costs and a lower supply of goods will reinforce inflation. So far, the war in the Middle East has not led to a rise in energy prices. Depending on how the conflict develops, this could change. There is also an upward risk for inflation within Europe. Given the loss of purchasing power by workers, especially in 2022, unions understandably push for high wage agreements in 2024. Their bargaining position is strong because demographic change increases the power of workers. And another point argues that the ECB is not too late with interest rate cuts if it keeps quiet in the spring. Market expectations of an imminent interest rate cut ease financing conditions, which, in turn, delays the necessity for an actual interest rate cut further into the future.