Winnipeg Free Press - PRINT EDITION

European bank cuts interest rate

-- Markets down despite ü-point drop -- Overnight rate changed to zero

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FRANKFURT, Germany -- The European Central Bank cut its benchmark interest rate to a record low Thursday to spark economic growth but gave little sign it would take further action soon to ease Europe's financial crisis.

By cutting its key refinancing rate by a quarter percentage point to 0.75, a move that was widely expected, the ECB sought to give Europe's sagging economy a lift by making it cheaper for businesses and consumers to borrow.

Financial markets were underwhelmed, and even ECB President Mario Draghi conceded the impact of the rate cut could be "muted" given the low demand for credit in the slow economy. Analysts noted interest rates were already low, banks remain wary of lending to each other and businesses and consumers see little reason to take on more debt.

In a more surprising move, the ECB also cut the interest rate it pays banks on overnight deposits by a quarter percentage point -- to zero. The move could nudge banks to lend more money, rather than sock it away with the ECB and earn no interest. But even that move could have limited effect, analysts said, since there are other safe havens where banks can park their money.

Draghi said the bank acted in the face of economic pressures being felt by the 17 countries that use the euro, nearly half of which are in recession.

He said there is more the ECB could do to stimulate growth -- "We still have all our artillery ready" -- and indicated inflation should remain low, which gave the bank room to reduce rates.

But Draghi offered little hope the bank would take more emergency measures to ease the debt crisis, such as issuing cheap loans to banks. He did, however, indicate the ECB could make it easier for banks to borrow from it by accepting a wider range of collateral.

Stock markets initially rose after the rate announcement, but fell back down as investors worried about a slowdown in the global economy. Germany's DAX stock index closed 0.5 per cent lower while the Dow fell 0.1 per cent. The euro was down 1.1 per cent at US$1.2380.

"Today's ECB interest-rate cut does little to alter the bleak economic outlook," said Jennifer McKeown, analyst at Capital Economics. She said the ECB is likely to now wait and see how the financial markets and the economy react to the emergency measures European leaders announced last week.

The leaders agreed to make it easier for troubled countries and banks to receive rescue loans from Europe's bailout fund and also signalled greater willingness to use emergency funds to purchase government bonds. The goal would be to drive down troubled countries' borrowing costs. They also agreed to create a single Europe-wide banking regulator to prevent bank bailouts from wrecking individual countries' government finances.

Collectively, the moves sent a message to financial markets that eurozone leaders could work together to fix their problems. Draghi welcomed the measures, though they will take some time to put in place. The markets also cheered the measures, pushing down the high borrowing costs for financially stressed countries such as Italy and Spain, the euro region's third- and fourth-largest economies.

But fears remain high that a bankrupt Greece could eventually leave the euro, or that Spain or Italy could need bailouts that would strain the resources of other countries in the euro.

Joerg Kraemer, chief economist at Commerzbank, said the latest ECB action wouldn't fix what was wrong. The reason the eurozone economy is weak is not because of "high ECB rates but because of uncertainty stemming from the sovereign debt crisis. This can't be cured by lower rates."

-- The Associated Press

Republished from the Winnipeg Free Press print edition July 6, 2012 B8

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