ECB finally cuts rates

Tom Tong02/May/2013Currency Updates

The ECB decided to lower its main interest rate, the refinancing rate, by 0.25 to 0.5%. This move have been widely expected by the markets, given the grim macroeconomic news that have been filtering out of the Eurozone over the past few weeks. Various business and consumer sentiment indices (chief among them the PMIs) had been indicated that the core economies of Germany and, specially, France, were being dragged down by the dismal state of the periphery. Draghi fully acknowledged as much during the press conference. The sharp fall in headline inflation, to 1.2%, and considerably below the ECB target of “close to but below 2%, gave further ammunition to the doves.

In spite of the cut, this is yet another disappointing performance by the ECB. The measure will have essentially zero macroeconomic impact. The monetary transmission mechanism is broken, and this modest cut will have no effect on either the price of or access to credit in the periphery. Among the measures that the ECB could have implemented where: an extension of full allotment in the LTROs financing operations all the way to 2015, and measures to support SME financing modelled on the example of the Bank of England. The former were only extended to 2014, and there were some vague references to “consultations” on the latter, but no action.

This cut looks therefore like too little, too late to do anything to lift the Eurozone out of what Draghi himself said is “the longest recession in its history”. We find the reaction in the Euro very telling; it rose initially when the cut was announced, only to give up all its gains and fall sharply as disappointment over lack of further measures set in. Markets patience with ECB non-action is running out.

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Written by Tom Tong

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