European Central Bank President Mario Draghi said keeping interest rates low for an extended period carries risks that policy makers weighed carefully before they reduced the benchmark rate to a record low.
“I am of course aware that our rate cut raised some concerns,” Draghi said in a speech in Berlin today. “A protracted period of time of low rates creates the scene for risks in financial stability.”
The ECB reduced its main refinancing rate by a quarter of a percentage point to 0.25 percent on Nov. 7, while keeping the overnight deposit rate for lenders who park excess cash at the central bank at zero. Policy makers are considering a smaller-than-normal cut in the deposit rate to minus 0.1 percent if more stimulus is needed to ward off deflation, according to two central-bank officials with knowledge of the debate.
“Don’t try to infer anything from what I say, anything about the possibility of negative rates,” Draghi said. “This was discussed in the last monetary-policy meeting and there’s no more news since then. Let me make this clear.”
The ECB president told reporters after the Nov. 7 meeting that a deposit rate below zero is a policy option for which the bank is “technically ready.” The ECB’s Governing Council gathered in Frankfurt this week for its mid-month meeting and the next interest-rate decision, which will be delivered with new economic forecasts, will be announced on Dec. 5.
The euro rose as much as 0.3 percent after Draghi’s remarks today and traded at $1.346 at 3:42 p.m. in Frankfurt. The currency fell 0.7 percent yesterday after the report that the central bank is considering a deposit rate of minus 0.1 percent.
“The speech looks like an effort to try and heal the divisions in the Governing council and between countries by playing the German line on the need for sound macro polices and structural adjustment, but making the case for persistently accommodative policy,” said Dominic Bryant, an economist at BNP Paribas SA in London. “There is a significant risk of unconventional measures at some point, but wide divisions on the council would have to be overcome, or at least accepted.”
Governing Council member Jens Weidmann, the head of the Bundesbank, said in an interview with Die Zeit published today that it is not “sensible” to consider further monetary loosening as it would distract from the roots of the financial crisis. The German central bank said on Nov. 14 that it doesn’t see an imminent threat for financial stability in the form of a housing bubble, even though higher demand has boosted prices.
Draghi said that broad-based risks from low interest rates haven’t materialized across the 17-nation euro region so far.
“We may at most see local risks, but local risks in certain specified sectors have to be addressed by local tools, local means,” he said. “Namely, what we call macroprudential instruments.”
The ECB cut rates this month “not because we see deflation risks materializing,” Draghi said. “With the recovery taking hold, we still expect inflation to return very gradually to levels below but close to 2 percent. Rather, we acted to restore an appropriate safety margin from zero as prescribed by our price-stability objective.”
Euro-area inflation slowed to 0.7 percent in October, the lowest level in four years and less than half the ECB’s target of just under 2 percent. While economic growth is again taking hold, it remains “weak, fragile, uneven, and we see the risks all on the downside,” Draghi said.
“We have been witnessing a disinflation ‘in slow motion’ for several months now,” he said. “Combined with still weak economic and monetary dynamics, the latest data suggest that we may experience a prolonged period of low inflation going forward.”
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