ECB Holds Rates at 1.5%; Urges Boosting Bailout Fund

Citing a slowing of the economy in the face of the sovereign debt crisis engulfing several Eurozone countries, the European Central Bank said today it will keep the benchmark lending rate at 1.5 percent. This marks a shift in the central bank’s outlook and is a dramatic reversal since the previous interest rate announcement last month which raised rates by twenty-five basis points.

In a press conference following the interest rate announcement, ECB President Jean-Claude Trichet described the current level of economic uncertainty as “very high”. As a result, Trichet revealed that the ECB will conduct a “supplementary refinancing operation” to provide additional loans to the region’s banks.

Indeed, there is evidence that the central bank has already started a new program to buy government debt to help countries forced to offer higher borrowing costs to attract investors. Spain, for instance, was able to raise 2.2 billion euros (US$3.1 billion) on Thursday but was forced to offer 4.8 percent on three-year bonds compared to 4.0 percent for a bond auction held in June.

The rate represents a risk premium of 407 basis points over the benchmark German bunds touching a new high for the post-euro era. Despite the increased risk, demand was deemed to be very strong. This suggests there is reasonable confidence in the market that Spain is still capable of meeting its debt obligations.

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