(Bloomberg) -- The European Central Bank needs to be wary of cutting interest rates too far as borrowing costs are already near a level that no longer restrains the economy and going lower could backfire, according to Executive Board member Isabel Schnabel.
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Officials can continue to loosen monetary policy, but should do so only gradually to avoid taking rates below the so-called neutral threshold, Schnabel said in an interview. Easing too much could squander valuable policy space, the hawkish policymaker warned.
"Given the inflation outlook, I think we can gradually move toward neutral if the incoming data continue to confirm our baseline," Schnabel said in her Frankfurt office. "I would warn against moving too far, that is into accommodative territory."
She estimates neutral, which can't be precisely measured, at 2% to 3% -- higher than more dovish officials like Greece's Yannis Stournaras and Portugal's Mario Centeno have suggested. With the deposit rate standing at 3.25% following the three quarter-point cuts so far this year, Schnabel said "we may not be so far" from it now.
Money markets pared bets on ECB rate reductions after Schnabel's comments, seeing only 146 basis points of easing through end-2025 compared with 150 previously. The euro extended gains, rising 0.5% to a session high of $1.054, while German two-year bond yields erased an earlier decline.
Click here for full interview transcript
The remarks feed an intensifying debate about how the ECB should react to a deterioration in the euro-zone economy alongside inflation that's approaching 2% target more rapidly than previously foreseen -- but not without leaving pockets of concern.
Discussions over the pace of easing are becoming heated, complicated further by heightened global uncertainty -- especially from the trade tariffs that will likely accompany Donald Trump's return to the White House.
Investors expect rates to fall to about 1.75% next year, which Schnabel acknowledged is at odds with her own assessment. Economists polled by Bloomberg see them declining to 2% in the second half of 2025.
"Markets seem to assume that we will need to move into accommodative territory," she said. "From today's perspective, I do not think that would be appropriate." She also dismissed investor speculation on half-point moves, saying she has "a strong preference for a gradual approach."