Draghi Unveils Historic Measures Against Deflation ThreatJeff Black and Stefan Riecher
Mario Draghi unveiled an unprecedented round of measures to help the European Central Bank’s record-low interest rates feed through to an economy threatened by deflation.
The ECB today cut its deposit rate to minus 0.1 percent, becoming the first major central bank to take one of its main rates negative. In a bid to get credit flowing to parts of the economy that need it, the ECB also opened a 400-billion-euro ($542 billion) liquidity channel tied to bank lending and officials will start work on an asset-purchase plan. While conceding that rates are at the lower bound “for all practical purposes,” the ECB president signaled policy makers are willing to act again.
“We think it’s a significant package,” Draghi told reporters in Frankfurt. “Are we finished? The answer is no.”
A worsening in the euro area’s economic outlook and a prolonged spell of slow inflation prompted the ECB to act to preserve the fragile recovery in the world’s second-largest economy. Ultra-loose monetary policy so far hasn’t benefited all parts of the 18-nation bloc, with bank lending in the region still shrinking even after sovereign bond yields from Spain to Italy dropped to record lows.
The ECB’s benchmark rate was cut by 10 basis points to 0.15 percent and the marginal rate was reduced by 35 basis points to 0.4 percent.
The euro fell after Draghi’s comments before rebounding, and was little changed at $1.3617 at 6:02 p.m. in Frankfurt. The currency is down almost 3 percent since touching a 2 1/2 year high of nearly $1.40 during Draghi’s previous briefing on May 8. Germany’s DAX Index of stocks climbed to an intraday record.
“There’s a little bit more than expected,” said Grant Lewis, an economist at Daiwa Capital Markets in London. “Draghi’s pulled a couple of rabbits out of the hat, which seems to have pleased people. He’s surprised the median expectations and now people are just looking for more detail. It will take a little bit of time to digest.”
Draghi’s announcement is the most dramatic since he announced his plan to “do whatever it takes” to save the euro in the summer of 2012. While that succeeded in keeping the bloc together, the ECB is still trying to fix its battered economy as banks in southern Europe unwind bad loans and shy away from fresh lending to businesses that could spur growth.
“Has Draghi served us a similar treat today? Not quite,” said Holger Schmieding, chief economist at Berenberg Bank in London. “But he delivered more than the ECB had suggested before. Taken together, the innovative and comprehensive bundle of measures will support the economic recovery over time, and it certainly will not do any damage.”
Draghi announced a new liquidity program designed to encourage lending. Financial institutions will be allowed to borrow money from the ECB equivalent to as much as 7 percent of their outstanding loans to non-financial corporations and households, excluding mortgages.
The maturity will be up to four years, priced at the ECB’s benchmark rate when the loans are taken out plus 0.1 percentage point. Banks that don’t pass the money on will be obliged to repay it after two years. The so-called targeted longer-term refinancing operations, or TLTROs, will be carried out in September and December.
From March 2015 to June 2016, on a quarterly basis, banks will be able to borrow as much as three times the amount of their net lending to euro-area companies, above a threshold set by the ECB.
The central bank also said it would push on with plans that could see it buying asset-backed securities based on bank loans. That measure could help smooth lending by helping banks manage risk.
“The Governing Council decided to intensify preparatory work related to outright purchases in the ABS market to enhance the functioning of the monetary policy transmission mechanism,” he said. “The Eurosystem will consider purchasing simple and transparent asset-backed securities with underlying assets consisting of claims against the euro area non-financial private sector, taking into account the desirable changes in the regulatory environment, and will work with other relevant institutions to that effect.”
Other measures announced included extending the policy of granting banks as much money as they ask for, against eligible collateral, until the end of 2016. The ECB will also suspend the draining of liquidity generated by its crisis-era bond purchases under the Securities Markets Program. That sterilization operation, which aims to remove about 165 billion euros of cash from the system, has failed for the past eight weeks.
“We decided on a combination of measures to provide additional monetary policy accommodation and to support lending,” Draghi said.
The negative deposit rate, which means charging banks that want to deposit excess funds with the ECB, has been heralded by Draghi as a way to stem unwarranted increases in money-market rates, as well as to curb euro strength that has contributed to slower inflation.
The measure has been used by a handful of smaller central banks in recent years, including Sweden’s, which conducted a 14-month experiment in 2009-2010. Denmark moved below zero in July 2012 -- though the cut was aimed more at protecting its currency than stimulating growth -- and ended the policy in April.
“It’s another whatever-it-takes moment in the life of the ECB and the euro zone,” said Carsten Brzeski, chief economist at ING-DiBa AG in Brussels “He threw in all he had.”