ECB Surprises Markets With Rate Cut, Asset Purchases

The European Central Bank, in a surprise move Thursday, cut its main interest rate to rock bottom and said it will buy certain securities and bonds in a bid to stimulate growth and combat increasing risks of deflation.

In addition to lowering its key bank-lending rate to a fresh low of 0.05 percent, from 0.15 percent, the ECB pushed the bank-deposit rate further into negative territory, making it more expensive for lenders to park cash at the central bank.

The actions, announced in Frankfurt, Germany, boosted stock prices and sent the euro down to below $1.30, the lowest in more than a year.

The euro has fallen about 3 percent against the dollar in the last month alone, and analysts expect a further weakening of the euro as the ECB expands its easy-money policies while the Federal Reserve moves in the opposite direction by pulling back on stimulus.

A weaker euro would help lift European exports, as the price of those goods would be cheaper in the U.S. and other foreign markets. Conversely, a stronger dollar would weigh on American exports, although a faster recovery in Europe would bolster demand for U.S. goods.

In the first seven months of this year, U.S. goods shipments to the 18-nation eurozone rose nearly 8 percent from a year earlier, while American imports from the single-currency bloc increased at an even faster pace, the Commerce Department said Thursday. The monthly report showed that the U.S. trade deficit in goods and services edged down to $40.5 billion in July, from $40.8 billion the previous month, seasonally adjusted.

The ECB’s program to buy asset-backed securities and so-called covered bonds, which are created from public-sector or mortgage loans, falls short of the Fed’s extensive government-bond purchases in recent years. But analysts said the ECB could launch such large-scale bond purchases soon, and the ECB’s president, Mario Draghi, indicated as much at a news conference Thursday.

Underlying the ECB’s actions were intensifying concerns about the euro region’s fragile recovery and, most significantly, its persistently low rate of inflation. In August, the Eurozone’s annual rate of inflation slipped further, to a five-year low of just 0.3 percent, increasing risks of deflation – a condition of falling prices and wages that cuts into business profits, raises real debt burdens and discourages consumer purchases.

“Should it become necessary to further address risks of too-prolonged a period of low inflation, the governing council is unanimous in its commitment to using additional unconventional instruments within its mandate,” Draghi said.

Although the eurozone’s sovereign-debt crisis has eased, officials continue to struggle with high unemployment and sluggish growth. The euro region’s gross domestic product, a broad measure of economic activity, stalled in the second quarter, and Draghi noted that the latest signs in August were not encouraging.

“Most, if not all, the data we got in August on GDP and inflation showed that the recovery was losing momentum,” he said.

This article appeared in print in the September 5th, 2014 edition of Hamodia.