European Central Bank could act before Fed to add stimulus

Posted on Monday, July 22nd, 2019 By David Mchugh, AP Business Writer

FRANKFURT, Germany (AP) — The European Central Bank could take action including a possible rate cut at its policy meeting on Thursday, as central banks around the globe rev up stimulus to support the world economy through a period of heightened uncertainty from trade wars and Brexit.

The ECB, which sets interest rates for the 19 European Union member countries that use the euro, is expected by many analysts to at least tweak its promise to keep interest rates at rock-bottom levels into next year. The new wording would emphasize that the next move down the road could be a cut.

But a rate cut Thursday is not out of the question either — even though one of the rate benchmarks is already below zero.

That would see the ECB moving ahead of an expected rate reduction from the U.S. Federal Reserve, which has an outsized role due to the size of the U.S. economy and the dollar's status as an international currency for borrowing and trade. Fed officials have signaled they may cut rates at their July 30-31 meeting, from the current benchmark federal funds rate of 2.25-2.5 percent. Central banks in South Korea, Indonesia and South Africa have already cut rates in recent days.

Analysts at bank Morgan Stanley predict the ECB will cut its deposit rate from minus 0.4% to minus 0.5% at the bank's Sept. 12 meeting or before and "wouldn't be surprised if this was to happen already" at Thursday's meeting. The negative rate means banks pay to keep cash overnight at the ECB, a penalty aimed at pushing them to lend the money.

"The main question is whether the ECB can afford to wait six more weeks before delivering new monetary stimulus or whether it should surprise financial markets by frontloading new measures," Carsten Brzeski, chief economist for Germany at bank ING, wrote in a note to investors.

The shift in policy comes even though the global economy continues to grow - including in Europe and the U.S. - and unemployment has fallen.

The central banks would be moving to pre-empt the economic impact from risks including slowing trade and investment due to the U.S.-China trade dispute. For the ECB, there's also Britain's impending departure from the European Union, which is set to happen by Oct. 31 and could result in disruption to trade if it occurs without a negotiated exit agreement.

Central banks like the Fed and the ECB had earlier been in the process of withdrawing a decade of monetary stimulus deployed in the wake of the Great Recession and financial crisis of 2008-09. The Fed had raised rates and the ECB only in December halted a 2.6 trillion euro ($2.9 trillion), four-year bond purchase stimulus that pumped newly created money into the economy.

With rates already low and those 2.6 trillion newly printed euros still in the financial system it's an open question how much additional stimulus would result from the ECB's moves. Yet consumers, investors, businesses and governments are all likely to be affected by the shift.

For one, savers may see an even longer period of paltry interest returns on bank deposits and other low-risk holdings. On the other hand, stimulus measures tend to buoy stocks and real estate, cheering markets in the short term but raising questions about whether some assets might rise too far and then fall painfully.

Low rates also mean less pressure on Europe's indebted governments such as Italy. Low rates make it easier for businesses to borrow but raise the prospect that cheap money is keeping alive inefficient "zombie firms" that would otherwise go bust and permit the economy to shift investment to more productive use. Companies have taken on more debt, an ominous sign for some economists.

The ECB's minimum tweak Thursday could be adding the word "or lower" to its promise to keep rates unchanged at least through mid-2020.

Beyond a possible interest rate cut, many analysts think the bank could re-start the bond purchases later this year if things do not start looking up.

Brzeski said that waiting until September would mean the bank could gather more data and use new quarterly staff projections to support any move.

He cautioned that "Draghi's track record of over-delivering and trying to be ahead of the curve, however, could bring new ECB action at the July ECB meeting. It's a very close call."

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