European c. bank to hold fire on rates as crisis deepens

FRANKFURT, Germany – The European Central Bank will lower its growth forecasts for the euro area at its last policy meeting of the year, but also argue that cutting rates is not the appropriate response yet, analysts predict.

With ECB interest rates already at record lows and its latest anti-crisis weapon ready and primed for action, central bank chief Mario Draghi will insist once again that the ball is in the court of the governments to find a way out of the long-running crisis, economists said.

Draghi said as much in a French radio interview on Friday.

“We will succeed on condition that governments act,” he told Europe 1 radio.

“We will do what is needed, and we are ready to intervene again if it is necessary… even to an unlimited extent”.

But it was essential that governments get their economies and finances in order, Draghi said.

“The ECB perceives its job — both on conventional and unconventional policy — as just about done,” said UniCredit chief eurozone economist Marco Valli.

Market tensions have indeed eased since the ECB unveiled its anti-crisis bazooka in September, the so-called OMT bond-purchase programme.

The scheme is credited with marking a turning point in financial market sentiment towards the crisis-wracked euro even though it has not actually been used.

In fact, the ECB has kept its gunpowder dry since then, keeping interest rates at their all-time low of 0.75% and also holding fire on other emergency anti-crisis measures, after pumping vast amounts of liquidity into the markets earlier this year.

But with the central bank scheduled to publish its updated economic forecasts for 2012 and 2013 and its preliminary estimate for 2014, the spotlight is back on whether there is room for more rate cuts, analysts said.

“Conventional monetary policy will stay center stage” at the ECB governing council meeting on Thursday, said UniCredit’s Valli.

There is some debate, however, on the effectiveness of further monetary easing since the rate cuts so far have not been feeding through to the countries that would benefit from them most, notably the debt-wracked countries.

“A rate cut remains off the agenda, partly because a rate cut would not ease what the ECB regards as the most urgent problems — the fragmentation of the financial markets,” said Commerzbank economist Michael Schubert.

“The problem is not the level of key interest rates per se, but the failure to pass on rate cuts to lending rates in the periphery,” he argued.

Following last month’s policy meeting, Draghi said that additional rate cuts had not even been discussed.

Analysts suggested that this month could be different, however, given that the ECB is scheduled this month to publish its latest economic forecasts and they are expected to be gloomy.

Back in September, the central bank’s staff already slashed their forecast for growth in the eurozone for both this year and next, pencilling in a contraction of 0.4% this year followed by modest growth of 0.5% in 2013.

“Whilst the forecast for 2012 remains plausible, the forecasts for next year look increasingly optimistic and we would expect a downgrade to these,” said Victoria Clarke at Investec.

Valli at UniCredit said he was betting on a new projection of “zero growth or a slight contraction” for 2013.

“Despite this, however, it seems unlikely that president Draghi will indicate a greater willingness to provide further general policy support, either conventional or unconventional,” said Jonathan Loynes at Capital Economics.

“Hopes of an interest rate cut already appear to have faded again and the ECB has shown few signs of warming to the idea of full-scale quantitative easing — that is, unsterilised bond purchases — for macro-economic stimulus purposes,” he said.

“Overall, the message will be that the ECB is standing ready to use its latest weapon, but is unwilling to make any promises over how effective it will be and reluctant to allow governments to relax their own efforts,” Loynes concluded. – Simon Morgan, Agence France-Presse