European Central Bank holds rates amid recovery

AP News
Posted: Mar 06, 2014 10:54 AM

FRANKFURT, Germany (AP) — The European Central Bank kept its key interest rate on hold Thursday and raised its economic growth forecasts as it acknowledged that the recovery is strengthening in the 18 countries that use the euro.

The euro jumped as markets took the bank's inaction and the comments from its president, Mario Draghi, as a sign that the top monetary authority for the eurozone might not take further steps to stimulate the economy.

"Amid a gradually firming recovery, the ECB sees no need to act," analyst Christian Schulz at Berenberg Bank in London wrote in a research note. "Draghi also gave no indication today that the ECB may ease policy again in the foreseeable future."

After the decision to keep the key rate at a record low of 0.25 percent, Draghi said the bank had raised its projection for economic growth to 1.2 percent this year, up slightly from the 1.1 percent estimate made in December.

The euro rose sharply, gaining a cent against the dollar to trade around $1.3840. Expectations that the central bank will not cut rates tend to boost the euro, since that means higher returns on interest-bearing investments.

Yet Draghi warned that the economy still had so much slack to take up that the ECB's stimulus policies of low rates and easy credit to banks "will continue even though we see improvements in the economy." The eurozone grew 0.3 percent in the fourth quarter but unemployment remains high at 12 percent.

The ECB trimmed its inflation forecast for this year, to 1 percent from 1.1 percent, and to only 1.5 percent in 2016. That is well below the bank's goal of just under 2 percent. But it said inflation will rise steadily to 1.7 percent by the last quarter of 2016.

Some economists worry the eurozone might fall into deflation, a sustained drop in prices that can choke growth, though the ECB has said it doesn't expect that. Inflation in February was only 0.8 percent. However, the core rate, which excludes volatile food and fuel costs, has edged higher.

Japan fell into deflation in the 1990s but Draghi drew an extended contrast between Europe and Japan, arguing they were different. Inflation expectations remained steady in the eurozone, "and that was not the case in Japan," he said, adding the ECB was not being complacent.

Some analysts were expecting the ECB to trim its deposit rate below zero, effectively penalizing banks for holding money at the ECB instead of lending it. Others thought it might stop taking weekly deposits from banks, which would cause an increase in the amount of money in the financial system.

Stephen Moore

A more far-reaching measure would be large-scale purchases of financial assets such as government bonds with newly created money, as the U.S. Federal Reserve has done. That would increase the amount of money in the economy and aim to lower market interest rates. But such a move faces legal, political and technical obstacles in a currency union with 18 members.

Draghi said all those steps remained under consideration but would take time to study: "These projects have not been shelved."

He said the turmoil in Ukraine would not have a large direct impact on the eurozone economy because trade flows are relatively small. Neighboring Russia sent troops into Ukraine's Crimea region after a pro-Russian president was ousted by a protest movement demanding closer ties to Europe. Draghi said the consequences of a broader geopolitical disruption were harder to assess.

He acknowledged that some European countries such as Poland might see the euro was "an island of stability" and accelerate efforts to join. But he said the broader considerations involved of national security "go well beyond the mind of a humble central banker."