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ECB announces measures to kick start euro zone economy

ECB announces measures to kick start euro zone economy

The European Central Bank today promised an indefinite supply of fresh asset purchases and cut interest rates deeper into negative territory, an effort to prop up the ailing euro zone economy.

The moves come in the final weeks of ECB President Mario Draghi’s mandate.

They will increase pressure on the US Federal Reserve and Bank of Japan to ease next week to support a world economy increasingly characterised by low growth and protectionist threats to free trade.

Yet there were immediate doubts as to whether the ECB measures would be enough to boost a euro zone recovery in the face of a US-China trade war and possible disruption from Brexit.

The ECB cut its deposit rate – the rate it charges banks to hold money – by 10 basis points to a record low of -0.5% from -0.4%.

ECB deposit interest rate cut – a Draghi on savers

It also promised that rates would stay low for longer and said it would restart bond purchases at a rate of €20 billion a month from November 1.

“The Governing Council expects (bond purchases) to run for as long as necessary to reinforce the accommodative impact of its policy rates, and to end shortly before it starts raising the key ECB interest rates,” it said in a statement.

Given that markets do not expect rates to rise for nearly a decade, such a formulation suggests that purchases could go on for years – an eventuality Mario Draghi did not challenge.

“We have a relevant headroom to go on for quite a long time at this rhythm without the need to raise the discussion about limits,” he told a regular news conference after the meeting.

The news triggered a rally in euro zone bonds that would cut the cost of borrowing in the 19-country currency bloc, and pushed the euro below $1.10, prompting expectations that inflation could rise.

US President Donald Trump, who this week called on the US Federal Reserve to follow other central banks in adopting negative interest rates, accused the ECB of seeking a trade gain by deliberately depreciating the euro against the dollar.

“And the Fed sits, and sits, and sits. They get paid to borrow money, while we are paying interest!” he tweeted.

The rate cut will however increase the cost to commercial banks of parking their more than €1 trillion worth of excess reserves at the central bank.

The ECB said it would compensate lenders for part of this charge to ensure they continued to lend to the real economy.

The ECB also eased the terms of its long-term loan facility to banks and said it would introduce a multi-tier deposit rate facility to help them.

Mario Draghi, whose pledge in 2012 that the ECB would do “whatever it takes” to save the euro is credited with helping restore stability at the peak of the bloc’s debt crisis, stressed the currency zone needed more support.

“Incoming information since the last Governing Council meeting indicates a more protracted weakness of the euro area economy, the persistence of prominent downside risks, and muted inflationary pressures,” he said.

Indeed the ECB’s initial, unprecedented €2.6 trillion bond purchase scheme since the financial crisis has had only limited success in stimulating activity.

Data earlier showed euro zone industrial production fell for a second month in July, while Germany’s Ifo institute predicted a recession in Europe’s economic powerhouse in the third quarter.

Although markets had priced in a revival of asset purchases, over half a dozen conservative policymakers spoke out in public against such a scheme, leaving markets in doubt about how bold the ECB’s measures would be.

The decision suggests that many of these sceptics eventually agreed, giving Draghi a comfortable enough majority in what is likely to be his last major policy move before handing over to Christine Lagarde later this year.

The ECB has undershot its inflation target of almost 2% since 2013 so stimulus was essential to maintain credibility.

But policy easing by central banks around the globe, including the US Federal Reserve, also put the ECB in a bind.

Not easing in sync with the Fed also risked pushing the euro higher, which would then dampen inflation and put the bank even further away from its targets.

Draghi’s critics argue that the euro zone’s biggest troubles – a global trade war, Brexit and China’s slowdown – are outside the ECB’s control, so any stimulus would have a limited impact.

They also say the bloc is experiencing a slowdown, not a recession, and that bond purchases, the ECB’s most powerful tool, should be reserved for real crises, especially since the bank has used up much of its firepower in past stimulus rounds.

With Lagarde taking over on November 1, some also argued that the ECB should refrain from making long-term commitments that would tie the hands of the bank’s next president.

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