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ECB gears up for rate cut, likely this week

The Euro currency sign is seen in front of the European Central Bank (ECB) headquarters in Frankfurt April 4, 2013. REUTERS/Lisi Niesner
The Euro currency sign is seen in front of the European Central Bank (ECB) headquarters in Frankfurt April 4, 2013. REUTERS/Lisi Niesner

By Sakari Suoninen

FRANKFURT (Reuters) - The European Central Bank is likely to cut the main euro zone interest rate at its monthly meeting on Thursday as the bloc's economy has weakened further.

Since the last policy meeting on April 4, there have been few signs of the economy returning to growth, threatening the recovery which the ECB has said it expects to start in the second half of this year.

There are also increasing signs of weakness spreading to the euro zone's core. Confidence fell in April and did so by more than expected, data showed on Monday, highlighting the souring mood among companies and consumers since March, after an optimistic start to the year.

Weaker reports, combined with ECB policymakers' statements showing renewed appetite for rate cuts, has changed economists' views and a narrow majority now forecast one when the Governing Council convenes in Bratislava, one of the two meetings it holds annually outside its Frankfurt base.

Senior sources involved in the deliberations say momentum is building for action to help a euro zone economy which has slipped back into recession, a move that some policymakers wanted to take earlier this year.

In a Reuters poll, 43 of 76 economists said they expected the 17-country bloc's central bank to cut rates by 25 basis points to 0.5 percent. At the same time, 57 of 66 said a cut would not have much impact on the economy.

"Most Council members have reached a point where they say we can't keep on doing nothing," RBS economist Richard Barwell said. "They probably feel that cutting rates would be better than doing nothing."

ECB Vice-President Vitor Constancio said last week that the central bank stood ready to act, adding that there was still room to cut rates.

But, as the poll shows, a sizeable minority think the ECB is not ready to cut yet.

A separate Reuters poll of euro money market dealers on Monday showed only half of the 22 expected the ECB to cut on Thursday. None of the 11 traders who replied to a question about the impact of a rate cut on interbank lending thought it would have any.

REASONS NOT TO

"A rate cut is not a done deal and the exact timing of the move remains very uncertain," Unicredit economist Marco Valli said.

ECB Executive Board member Joerg Asmussen has said lower rates would have little impact on economies in the euro zone's crisis-stricken south, because they do not reach the consumers and businesses in those countries.

Another argument for waiting another month is that the ECB often moves rates when it has new data, and it will publish the next set of economic projections in June.

The ECB offers banks unlimited funds in its refinancing operations, and the excess liquidity has pushed money-market rates well below the main refi rate.

The deposit rate, currently at zero, acts as a floor for money markets, and the ECB has made clear it has no appetite to take it into negative territory, which means that the ECB may choose to keep it, as well as the 1.5 percent interest rate on overnight lending, on hold even if the main rate is cut.

Thus, short-term money market rates are unlikely to fall further even if the main refi rate is cut.

A rate cut would, however, profit banks. They have close to 870 billion euros of central bank funds, and a 25 basis point cut would reduce banks' interest payments more than 2 billion euros annually.

Those favoring a cut also argue that it could have an important signaling effect, showing that the ECB is not done and could take more measures in the future.

The bank has mulled ways to stimulate lending to small companies, which have difficulties finding funding, especially in southern Europe, but it does not appear ready to announce anything concrete yet.

(Editing by Mike Peacock)

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