European Central Bank surprises markets with rate cut

FRANKFURT — The European Central Bank has startled investors with a surprise cut in its benchmark interest rate aimed at boosting a hesitant recovery in the 17 countries that use the euro.

The bank lowered the benchmark refinancing rate to a record low 0.25 per cent from 0.5 per cent at a meeting of its 23-member governing council in Frankfurt, causing stock markets to rally and the euro to slump.

Recent economic data, such as unexpectedly low inflation of 0.7 per cent, have suggested that the eurozone’s economic recovery remains weak. But most economists thought the bank would wait to offer more economic stimulus at least until next month, when it will have new forecasts from its own staff.

The surprise move underlined the bank’s newfound flexibility under President Mario Draghi, who took office in 2011. A lower refinancing rate makes it cheaper for banks to borrow from the ECB, in hopes that that lower rate will be reflected in what companies pay for credit. That would make it easier for them to expand and create new jobs and growth.

“It is obvious that the ECB under President Draghi has become more pro-active than under any of his predecessors,” analyst Carsten Brzeski wrote in a note to investors. The current eurozone inflation rate — well below the ECB’s goal of just under 2 per cent — has also untied the banks’ hands to try further monetary stimulus without fear that it could stoke inflation.

Still, many economists have said a rate cut from the current low level would have mostly symbolic impact. The problem is that banks in several countries are unable to pass on the lower rate because their own finances are strained.

The announcement sent the euro down sharply against the dollar, to US$1.3358 (S$1.66) from US$1.3520 before the announcement. That’s something the ECB won’t mind, as the stronger euro can hold back eurozone exports. Stock markets across the eurozone also rallied.

The 17 European Union member countries that use the shared euro currency returned to growth in the second quarter, with a modest 0.3 per cent increase in output. High unemployment and cutbacks in government spending in countries dealing with too much debt continue to hold back growth. AP