EU Central Bank ‘to hold rates steady’

The European Central Bank, after two rate cuts and a series of unprecedented liquidity measures, will hold its fire this month, as it assesses the impact of those previous measures, analysts say.

The recent raft of economic data, notably in Europe’s economic powerhouse Germany, has been surprisingly positive, so the bank at its meeting on Thursday looks set to wait and see how its past moves to prevent a credit crunch and boost the economy in the 17 countries are actually panning out.

In December, the ECB brought eurozone borrowing costs back down to their previous historical low of 1.0 percent, effectively reversing last year’s two earlier rate hikes.

On top of that, it offered banks in the region an unlimited pool of liquidity by loosening collateral rules, cutting the minimum reserve ratio and launching new three-year loans at super-cheap rates.

With a second such bond auction scheduled at the end of February, “the ECB seems happy to wait and see how these measures unfold,” said Commerzbank economist Michael Schubert.

Last month, ECB chief Mario Draghi insisted the liquidity measures were proving effective in tackling the debt crisis.

But so far, banks appear to be sitting on the unprecedented 489 billion euros ($643 billion) that the ECB pumped into the system, instead of lending it out to households and businesses as the central bank had hoped.

Banks’ deposits with the ECB’s overnight facility have soared to record highs in recent weeks and, in its latest regular quarterly bank lending survey, the ECB found that banks have tightened credit conditions for both households and businesses even as demand for loans is falling.

Nevertheless, analysts say the data do not fully take into account the ECB’s liquidity measures.

At the same time, there has been a raft of better-than-expected economic data recently.

In Germany, the single currency area’s biggest economy, for example, unemployment is at all-time lows, inflation appears to be in check and both household and business confidence is buoyant.

That has led to two consecutive monthly rises in the all-important Purchasing Managers’ Index for the entire eurozone, a key barometer of sentiment.

So even if credit aggregates are witnessing intensifed downward pressure, “indicators of economic activity suggest that the cyclical low may be behind us and improved sentiment in financial markets bodes well for the sustainability of this moderate recovery in the real economy,” said UniCredit economist Marco Valli. (AFP)

Given this somewhat mixed picture, the most likely outcome of this week’s ECB meeting “is a steady refi rate and no new announcements of unconventional measures,” Valli said.

Postbank Research economist Heinrich Bayer agreed.

“The eurozone recession should be short and mild,” he said.

“Nothing has changed since January in the ECB’s views with regard to inflation and the economy.”

In fact, he predicted that with the economy still weak but showing signs of gradual improvement, “the ECB will hold off from either cutting or raising rates for the rest of the year,” Bayer said.

Commerzbank’s Schubert agreed that “the hurdle for further rate cuts continues to be high.”

The ECB’s new chief economist, Peter Praet, had made it clear that the ECB had already done “very much” and also pointed to the negative side effects of historically low interest rates, Schubert noted.

Valli at UniCredit suggested the ECB would most likely leave its key interest rate at 1.0 percent “throughout 2012.”

Also predicting no change in rates, Capital Economics chief European economist Jonathan Loynes said he would be listening for what Draghi had to say about the possibility of the bank writing down parts of its holdings of Greek bonds as supposedly demanded by private creditors negotiating a restructuring of Athens’ debt.

“Draghi seems very likely to dismiss the idea,” Loynes said.

“The overall message is likely to be that, while the ECB is happy to provide further significant support for the eurozone’s banks, it remains very reluctant to take any more direct action to tackle the region’s fiscal crisis,” the analyst said. (AFP)