May 2 (Bloomberg) -- The European Central Bank cut its key interest rate to a record low as the 17-nation euro region struggles to emerge from recession.
Policy makers meeting in Bratislava today lowered the main refinancing rate to 0.5 percent from 0.75 percent, a move predicted by 45 of 70 economists in a Bloomberg News survey. The ECB kept the deposit rate at zero and reduced the marginal lending rate to 1 percent from 1.5 percent to preserve a symmetrical rate corridor. President Mario Draghi holds a press conference in the Slovakian capital at 2:30 p.m.
Since Draghi said last month that he stood ready to act if Europe’s economic outlook worsened, inflation plunged, economic confidence slumped and unemployment rose. Today’s cut, the first since July last year, takes the ECB closer to exhausting its conventional policy tools, raising the prospect of a negative deposit rate or new non-standard measures.
The rate cut “will not have any significant impact on short-term interbank rates,” said Nick Kounis, head of macro research at ABN Amro in Amsterdam. However, it will “reduce funding costs for the mainly peripheral banks that use the ECB’s lending facilities, so in that sense it is a targeted move.”
The euro rose half a cent after the decision and traded at $1.3190 at 2:14 p.m. in Frankfurt. Investors had increased bets on a drop in the cost of borrowing at today’s meeting. Spanish government bonds extended an eight-month gain last week, the cost of insuring against default on European corporate debt fell and European stocks posted the biggest increase in five months.
Expectations for a rate reduction and speculation the U.S. Federal Reserve would affirm its commitment to bond purchases helped push the euro to a two-month high of $1.3243 yesterday. The Fed yesterday pledged to keep buying bonds at a pace of $85 billion a month and said it’s ready to raise or lower that level as economic conditions evolve.
“A cut in the main refinancing rate alone will not get the job done,” said Marchel Alexandrovich, senior European economist at Jefferies International Ltd. in London. “Without a commitment to new unconventional measures, the meeting would prove yet another disappointment.”
Faced with a struggling economy and limits on the potency of conventional means to stimulate it, the ECB could consider options including long-term loans, corporate-bond purchases and forward guidance on interest rates. In the past, policy makers have found arguments against most of them.
Last month, the Governing Council tasked technical committees at the central bank to investigate ways to stimulate lending to small- and medium-sized businesses, which provide about half of all jobs in Italy and Spain. That plan may involve other institutions such as the European Investment Bank or the European Commission, Draghi said on April 4.
Since Draghi said the ECB stands “ready to act” in the face of worsening data, inflation slowed to 1.2 percent in April, the lowest level since February 2010 and well below the ECB’s 2 percent price-stability threshold.
Economic confidence as measured by the European Commission dropped to its lowest level since December, suggesting business executives and consumers doubt that Draghi’s predicted recovery this year will actually materialize. On top of that, unemployment in the 17-member euro area rose to a fresh record of 12.1 percent in March and manufacturing output contracted for a 21st month in April.
“So far we haven’t seen any improvement in the situation,” Draghi said at a press conference in Washington on April 19.
“The central arguments for a rate cut are the persistently weak economic confidence indicators that don’t point to a rapid recovery, and the increasing danger of undesirably low inflation rates,” said Kristian Toedtmann, senior economist at DekaBank in Frankfurt. “We see an interest-rate move as more than just a cosmetic maneuver. It would keep long-term money-market rates low or even lower them further.”
Still, with economies like Spain and Italy stuck in recession and their banking systems wary of taking on more risk, today’s rate cut may not automatically pass through to companies and households wanting to invest.
“The ECB has continuously stated that fixing monetary transmission will be much more effective than cutting interest rates from the current levels and is key to supporting a recovery in the periphery,” said Anders Svendsen, an economist at Nordea Bank Denmark A/S in Copenhagen. “To the ECB, fixing monetary transmission is done with the use of non-standard measures.”
Asmussen said last week that the effect of any further rate reductions may only be “limited” because they are not being passed on in the economies that need them most. He also said that the ECB can’t emulate the policies of the Bank of England, the Bank of Japan and the Fed.
“Large-scale asset purchase programs targeted at capital markets would not be very helpful in the euro area” and policies like forward guidance or quantitative easing “are not easily applicable here,” he said in a speech in London on April 25. One day later, he told a Frankfurt audience that higher inflation or targeting the rate of unemployment “are ideas that we simply cannot entertain.”
To contact the editor responsible for this story: Craig Stirling at firstname.lastname@example.org