ECB Cuts Main Rate to Record Low, Deposit Rate to Zero

The European Central Bank cut interest rates to a record low and said it won’t pay anything on overnight deposits as the sovereign debt crisis threatens to drive the euro region into recession.

Some “downside risks to the euro-area economic outlook have materialized,” ECB President Mario Draghi said at a press conference in Frankfurt after policy makers lowered the main refinancing rate and the deposit rate by 25 basis points to 0.75 percent and zero respectively. “Economic growth in the euro area continues to remain weak with heightened uncertainty weighing on both confidence and sentiment,” Draghi said.

With Europe’s debt crisis curbing growth across the continent and damping the global outlook, the ECB was under pressure to ease monetary conditions, even though Draghi last month voiced misgivings about the effectiveness of a rate reduction. While today’s moves may not stimulate demand, they will lower borrowing costs for struggling banks and could build on the confidence boost euro-area governments delivered last week when they took steps toward a deeper economic union.
‘New Territory’

“The benchmark rate doesn’t really matter at the moment, but cutting the deposit rate all the way to zero takes the ECB into new territory,” said James Nixon, chief European economist at Societe Generale SA in London. “If you can kick-start the money market you go a long way to addressing some of the funding problems that banks face. That may free banks to lend to the economy.”

Today’s rate cut, predicted by 49 of 64 economists in a Bloomberg News survey, is the first since December and the third since Draghi took office on Nov. 1. Twelve of 22 forecasters in another survey predicted the ECB would lower the deposit rate to zero. The euro fell more than half a cent to $1.2387 at 2:35 p.m. in Frankfurt.

Central banks around the globe are easing policy in response to Europe’s debt crisis, which has pushed at least seven euro nations into recession and forced five of them to seek bailouts.
Bank of England

The Bank of England, which has been drawn into the scandal over Barclays Plc’s rigging of Libor rates, today raised its target for bond purchases by 50 billion pounds ($78 billion) to 375 billion pounds. China cut rates today and the U.S. and Australian central banks eased monetary policy last month.

In Europe, bond and equity markets rallied last week after euro-area leaders opened the way to recapitalizing banks directly with bailout funds once a single banking supervisor is established. They also dropped the requirement that taxpayers get preferred creditor status on aid to Spain’s crippled lenders.

Yields on Spanish 10-year bonds fell to 6.25 percent yesterday from 6.94 percent on June 28. They rose to 6.53 percent this morning.

A deposit rate of zero may encourage banks to lend to other institutions, companies or households instead of parking excess cash in the ECB’s overnight deposit facility. About 800 billion euros ($1 trillion) is currently being deposited with the ECB each day.

Bloomberg

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Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell