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Updated: April 8, 2010 23:36 IST

European Central Bank set to keep rates unchanged

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President of the European Central Bank (ECB) Mr. Jean-Claude Trichet. Photo: AP.
President of the European Central Bank (ECB) Mr. Jean-Claude Trichet. Photo: AP.

The European Central Bank is set to indicate on Thursday that borrowing costs will remain low for much, if not all, of this year as the recovery from recession in the 16 countries that use the euro currency remains fragile.

In the press conference following the widely expected decision by the ECB to keep its main interest rate on hold at 1 percent for the eleventh month running, the bank’s president Jean-Claude Trichet is expected to keep his dovish tone - especially as many countries in the euro-zone enact big budget cuts to get their financial houses in order.

Last month, the ECB said it expects growth in the euro-zone to be between 0.4 percent and 1.2 percent this year and that inflation will be around 1 percent in the near-term - below the target of below, but close to 2 percent.

With inflation seemingly under control and governments around Europe grappling with mounting deficits by raising taxes or cutting spending, Mr. Trichet will be in no hurry to point to higher interest rates, analysts said.

“Recent comments from ECB officials have made it fairly clear that the market should not raise its hopes of any near—to—medium term shift in euro-zone interest rates,” said Neil Mellor, an analyst at Bank of New York Mellon.

Many countries in the euro-zone are poised for deep budgetary retrenchment this year - hardly a catalyst for growth.

The most high-profile cuts will take place in Greece, which has promised its partners that it will reduce its budget deficit by four percentage points to 8.7 percent of national output this year.

Mr. Trichet’s press conference could well be dominated again by the debt crisis in Greece, which has dogged the euro currency over the last few months. Since the last ECB meeting, the European Union finally ended weeks of wrangling by agreeing a financial support package for Greece, which would include the International Monetary Fund - the ‘deal’ has helped shore up the euro in the currency markets though done little to bring down Greece’s cost of borrowing in the bond markets.

Aside from the debt problems afflicting the euro-zone - Portugal’s credit rating has also recently been downgraded amid concerns about its ability to service its debts - investors will be interested to hear what Mr. Trichet says about changes to the bank’s liquidity policies.

Last month, Mr. Trichet told the European Parliament last month that so-called collateral crisis measures will not be scrapped at the end of this year as originally planned - that means that the Bank will continue to accept lower-rated government bonds as collateral from banks.

However, Mr. Trichet said there will be changes to the operation of the policy that will likely benefit the most highly rated countries like Germany and France.

For the short-term though, the move was widely considered to be a concession to Greece, whose credit rating has been slashed amid concerns it can’t get a grip on its mountain of debt.

Investors had worried that the ECB would no longer accept Greek debt if the ECB returned to rules that it would accept only highly rated bonds as collateral for short-term credit to banks, or if the country’s rating was downgraded again.

“The move will probably benefit Greek banks most given their heavy reliance on ECB funding and the fact that, had the Bank reverted to more stringent requirements as planned, there was a risk that Greek government bonds would no longer have been eligible,” said Jennifer McKeown, senior European economist at Capital Economics.

Meanwhile, the Bank of England is also expected to keep its key interest rate unchanged at 0.5 percent at the conclusion of its meeting on Thursday and not request any extension to its financial asset purchase facility from the government, a measure aimed at increasing the supply of money in the economy. Official figures showed that the British economy grew by 0.4 percent in the fourth quarter of 2009 - more than had been previously estimated.


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