European Central Bank pauses rate cuts in December, will the euro rebound or continue to depreciate?

Policy Disagreements Run Deep, 2026 Interest Rate Path Remains Uncertain

On December 18, the European Central Bank’s interest rate decision is about to be announced. The market largely expects the deposit facility rate to remain unchanged at 2%, marking the fourth pause in policy this year. However, the real focus is not on the decision itself but on President Lagarde’s subsequent speech and the new economic forecasts—since there is significant disagreement among institutions about whether the ECB will raise or cut rates in 2026.

The Market Has Bet on Rate Hikes, But Some See It Differently

Latest market data shows that traders have completely abandoned the idea of further rate cuts by the ECB in 2026 and are instead pricing in expectations of rate hikes. The logic behind this is that recent signals from ECB officials have been hawkish, suggesting that the rate-cutting cycle may have ended.

Citi’s forecast is more straightforward—the ECB will keep rates fixed at 2% and hold steady until the end of 2027.

However, Morgan Stanley takes a different stance. The bank believes that the market is overestimating the ECB’s hawkishness. From a fundamental perspective, the Eurozone’s economic growth is sluggish, inflation remains below target in the long term, and fiscal policy lacks support. These factors will ultimately force the ECB to continue easing policy. Therefore, Morgan Stanley expects the ECB to cut the deposit rate to 1.50% in the first half of next year, then keep it unchanged thereafter.

Three Details to Watch During the Decision Moment

The key points for this week’s decision are threefold: first, whether Lagarde will again revise upward the Eurozone’s economic growth forecast; second, whether her outlook on inflation remains optimistic; and third, whether these two signals combined will further reinforce the market consensus that the ECB has ended its rate-cutting cycle.

EUR Exchange Rate: Is the Outlook Bright?

The exchange rate outlook is also full of uncertainties. Morgan Stanley’s scenario is as follows: if the ECB keeps rates unchanged throughout 2026, the EUR/USD could surge significantly to 1.30, reaching a decade-high. Even if the ECB chooses to cut rates once more, the dollar is expected to weaken due to the Fed’s continued easing, allowing EUR/USD to rise to around 1.23.

Citi, on the other hand, has a completely different view. The bank expects EUR/USD to fall to a low of 1.10 in the third quarter of 2026 before rebounding. The reason is that the US economy might accelerate again, and the Fed’s rate cuts will be smaller than market expectations, providing support for the dollar.

From these opposing viewpoints, the future of the euro is neither “will keep falling” nor “will keep rising”—the key depends on how the two major central banks in Europe and the US will compete next. Lagarde’s speech in December and the Fed’s upcoming policy signals could rewrite the entire market expectation framework.