The European Central Bank (ECB) might cut interest deeper into the negative territory across its three benchmark rates to support the Eurozone’s slowing GDP growth, contain the appreciation of the euro, and boost the bloc’s competitiveness in global trade.
Kristian Rouz – Top European Central Bank (ECB) policymakers are considering deepening stimulus policies in case the Eurozone faces a realistic threat of a recession.
The move would likely put ECB interest rates in negative territory, similar to the policies enforced by the Bank of Japan (BOJ), while the future of the ECB’s multi-trillion bond-buying programme remains unclear.
According to several recent statements by top ECB officials, economic growth in the Eurozone could weaken in the second half of this year, while a strengthening euro could weigh on the bloc’s exports and global competitiveness. Such developments would require an intervention by the ECB aimed at boosting lending and investment, as well as increasing the supply of euros on the currency markets.
“If inflation and growth slow, then a rate cut is warranted,” an unnamed ECB source said, as quoted by Reuters.
Last week, the ECB said in a statement its interest rates would remain at their current zero-to-negative levels in the near-term. Policymakers touted the stability of monetary policy ahead of the important transition of power at the ECB – as President Mario Draghi is leaving his position this autumn.
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Investors believe the ECB is unlikely to cut rates anytime soon, resulting in the euro rising to its 2.5-month high of $1.1347.
“The Federal Reserve is likelier to cut rates than the ECB”, Thomas Flury of the Swiss investment bank UBS said. “And US authorities are likelier to be more sensitive than their European counterparts to an appreciation of their currency. Mr Draghi did not rule out a rate cut in press conference, but he did not raise expectations for one, either”.
However, the Eurozone posted a tepid 0.4-percent growth in 1Q19, while the powerhouse German economy is balancing on the edge of recession due to a contraction in manufacturing activity and weakening exports.
If the current trends continue, ECB officials say, a rate cut would be deemed necessary.
“I’ll give you five reasons for a rate cut”, one of Reuters’ sources said, adding that “exchange rates” are the main concern behind each of the reasons he would provide.
The ECB’s main refinance rate remains at 0 percent, while rates for marginal lending facility are set at 0.25 percent.
The ECB’s deposit rate, however, is negative, at -0.4 percent. The Eurozone’s top governments, including Germany and France, can borrow euro liquidity at negative rates for up to a decade – with the ECB effectively contributing to the budgets of its borrower nations during said period.
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Meanwhile, some experts say the euro in unlikely to appreciate further against the dollar, and an intervention by the ECB might not be necessary.
“Our recent research suggests that deterioration in data, as well as the pick-up in FX volatility, is now providing headwinds to the dollar. We, therefore, think the best of its gains may be behind us”, currency strategist Claudio Piron of Bank of America said.
ECB policymakers also say stock markets could suffer major losses in case trade tensions between the US and China flare up, or the EU and the US get involved in a similar standoff. The latter appears to be unlikely so far, as both Washington and Brussels have reaffirmed their commitment to striking a free and fair trade deal, but the process might turn out to be lengthier than expected.
Officials also say the ECB has been providing easy credit to European companies and households for several years now, and yet corporate activity and consumer spending remain subdued.
This might suggest reforms on the fiscal policy side by top European national governments could assist the ECB’s mission.