European Central Bank

Draghi leaves rate-cut door ajar as ECB lowers economic forecasts

Weakness expected to persist into 2013 as risks to outlook remain on downside

PUBLISHED : Friday, 07 December, 2012, 12:00am
UPDATED : Friday, 07 December, 2012, 3:23am

The European Central Bank lowered its economic and inflation forecasts, and president Mario Draghi said weakness would persist into next year, leaving the door ajar for further interest-rate cuts.

"Weak activity is expected to extend into next year," Draghi said yesterday in Frankfurt after policymakers left the benchmark rate at a record-low 0.75 per cent.

"Later in 2013, economic activity should gradually recover as global demand strengthens and our accommodative monetary policy stance and significantly improved financial market confidence work their way through to the economy."

While Italian and Spanish bond yields have plummeted since Draghi promised to do whatever it takes to save the euro and unveiled an unlimited bond-purchase programme, the 17-nation currency bloc fell back into recession in the third quarter.

The ECB's latest forecasts paint a picture of economic stagnation and inflation falling well below its 2 per cent limit. The euro fell more than half a cent to US$1.3031 as Draghi spoke.

The ECB now forecasts the economy will shrink 0.5 per cent this year, more than the 0.4 per cent contraction it predicted in September. It cut its forecast for next year to a contraction of 0.3 per cent from 0.5 per cent growth, and projected expansion of 1.2 per cent in 2014. Risks to the outlook remained on the downside, Draghi said.

The ECB reduced its inflation forecast for next year to 1.6 per cent from 1.9 per cent and predicted a rate of 1.4 per cent for 2014.

"Projections of undershooting inflation should keep rate cut speculation underpinned," Christoph Rieger, head of fixed-income strategy at Commerzbank, wrote in a note.

The Bank of England left its key interest rate unchanged at 0.5 per cent yesterday and refrained from expanding its asset-purchase programme.

Asked whether ECB policymakers considered a rate cut, Draghi said they had a "wide discussion". Still, he said, the outlook for medium-term price stability "hasn't changed substantially" and highlighted "some positive aspects of the current situation", such as an increase in German business confidence.

"We will continue to look at the situation, but to some extent we have already done much," he said.

German inflation fears may make policymakers think twice about cutting rates again.

The ECB extended its policy of lending banks as much money as they request for refinancing until at least July 9.