Economy: ECB slashes interest rates in bid to avoid eurozone deflation
13:22 05 June 2014
The Bank of England again left UK interest rates on hold today but the European Central Bank slashed its benchmark rates in a bid to prevent the the eurozone slippling into deflation.
The ECB cut its lending rate to just 0.15%, from 0.25% previously, and in a further attempt to boost economic activity it set its deposit rate at minus 0.1%.
This means that, rather than receiving interest on deposits with the ECB, banks will have to pay to lodge money there, the aim being to encourage banks to lend to businesses instead and so stimulate growth.
The Bank of England’s Monetary Policy Committee (MPC) meanwhile agreed to leave its rate at 0.5%, where it has been for five years, despite rumblings that some members are edging closer to voting for an increase.
The quantitative easing (QE) programme of asset purchases, pumping money into the economy, also remained unchanged, at £375billion.
Bank of England policy-makers are not yet ready to raise rates despite the surge in house prices, with new figures showing that they increased at their strongest month-on-month pace since 2002 in May.
In contrast, their counterparts at the ECB fear the possibility of the eurozone plunging into a damaging spiral of falling prices, with an unexpectedly sharp drop in inflation to 0.5% in May adding to the threat.
Low inflation makes it difficult for individuals and governments who have borrowed money to reduce debts and deflation can stifle growth as consumers delay spending.
Meanwhile, eurozone unemployment remains stubbornly high at 11.7% and growth for the first quarter has been confirmed at a paltry 0.2%.
The ECB interest rate cut was widely expected. Howard Archer, chief UK and European economist at IHS Global Insight, said it was “thoroughly justified by the mounting risk of persistent very low eurozone inflation morphing into deflation”.
The reduction by 0.1% “may be seen on the tentative side”, he said, but added: “Despite being widely anticipated and in some quarters criticised for occurring too late, it is still a bold and unusual move by the ECB to take its deposit rate into negative territory.“
However, Schroders European economist Azad Zangana argued against the deposit rate cut. “We expect banks to simply pass on the costs to households and businesses, either by charging fees for savers, but more likely through higher interest rates on new borrowers − the opposite of what the ECB is trying to achieve” he said.
Carsten Brzeski of ING Bank said the ECB had “entered unchartered new territory in its quest to support the eurozone economy”.
“Will it help to kick-start the economy? Probably not, but at least it demonstrates the ECB’s determination and ability to act,” he said.