European Central Bank cuts rate before crucial EU summit

FRANKFURT - The Associated Press

Demonstrators hold up a tape reading ‘break up big banks, reallocate prosperity!’ as they form a human chain around the financial district including the European Central Bank (ECB) in Frankfurt, Germany, on Nov 12. AFP photo

The European Central Bank (ECB) has cut its key interest rate by a quarter percentage point to 1 percent to help the eurozone economy as it slides toward recession because of the debt crisis.

The bank last cut rates only five weeks ago, on Nov. 3. Yesterday’s cut was an aggressive move from the new ECB head Mario Draghi, who took office Nov. 1.

Under predecessor Jean-Claude Trichet, the bank sometimes moved more slowly than markets wanted on rate cuts, and even raised rates twice earlier this year on concerns about inflation.

Again yesterday, the Bank of England has kept its base lending rate at an all-time low of 0.5 percent, as the market expected. The bank’s rate-setting Monetary Policy Committee also said it was not expanding its stimulus program beyond the 75 billion pounds ($118 billion) of asset purchases announced in October.

However, market expectations are that more stimulus will be authorized early in the new year.
ECB chief Draghi hinted in a speech last week that further bond purchases were possible if Europe’s leaders can come up with a credible plan to enforce budget discipline among the 17 countries that use the euro. That is the goal of an EU summit in Brussels that began yesterday evening.

Large-scale bond purchases would help drive down government borrowing costs, which have risen to crippling levels in Italy and Spain. By stabilizing the finances of Europe’s governments, the ECB would strengthen the continent’s financial system. European commercial banks that own government bonds face potentially huge losses and, as a result, they have curtailed lending to each other, banks and consumers. That credit squeeze is felt globally.

Throughout the Great Recession, the ECB never lowered its target rate below 1 percent. By comparison, the U.S. Federal Reserve’s target for short-term rates is 0-0.25 percent and the Bank of England’s 0.5 percent.

The inflation rate in Europe stands at 3 percent. That’s above the bank’s stated goal of just under 2 percent. But the bank forecasts it will fall in coming months.