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Thursday, the European Central Bank maintained its key interest rate unchanged at a record low for the fifth month in a row to nurture the economy that is showing signs of stabilization.
The ECB Governing Council, led by President Jean-Claude Trichet, left its key interest rate, which is the interest rate on main refinancing operations, at 1%. Interest rates on the marginal lending facility and deposit facility were maintained at their current levels of 1.75% and 0.25%, respectively.
The last change in the key interest rate was in May 2009, when the bank cut the rate by 25 basis points to the current level. The bank has lowered the key interest rate by a total of three and a quarter percentage points since October 2008.
Trichet and ECB Vice President Lucas Papademos are set to hold a regular press conference at 8.30 am ET to explain the decision. This month, the Italian city of Venice hosted the Governing Council meeting, as twice a year, the central bank changes its meeting venue outside its headquarters in Frankfurt. The October meeting marked the first anniversary of a co-ordinated rate-cut decision made by major central banks after the collapse of Lehman Brothers.
The Eurozone economy probably exited the worst recession in the third quarter. According to an interim forecast by the European Commission, Eurozone would grow 0.2% in the third quarter and by 0.1% in the fourth quarter. But, the return to growth is unlikely to give scope for commencing interest rate hikes, given the fragility of the recovery.
A final report from Eurostat showed Wednesday that the Eurozone economy contracted more than initially estimated in the second quarter. Gross domestic product fell 0.2% sequentially in the second quarter, a downward revision from the 0.1% decline estimated previously. "The ECB should be prepared to hold off from any exit strategy until it is is clear that Eurozone recovery is on firm grounds," IHS Global Insight economist Howard Archer said Wednesday, commenting on second quarter GDP figures.
Last month, the ECB raised its economic forecast for this year and next. It now sees 0.2% growth in 2010, a notable revision from a 0.3% contraction predicted in June. This year, the economy is predicted to shrink 4.1%, slower than an earlier prediction of 4.6%.
In its latest world economic outlook, the International Monetary Fund said the Eurozone economy would contract 4.2% this year and may grow 0.3% next year. This was a significant upward revision to its July forecast for a 4.8% contraction this year and 0.3% shrinkage next year.
There are increasing signs that the Eurozone economy is on the road to recovery. In September, the region's service sector activity grew for the first time in sixteen months, while the manufacturing sector is likely to recover in the coming months. Economic sentiment in September was highest in a year and investor confidence improved in October. But, unemployment rose to a decade-high in August.
In last month's introductory statement, Trichet had said due to fiscal stimulus measures in individual Eurozone economies, a substantial deterioration of fiscal positions in 2009 is confirmed and it is projected to continue in 2010. He urged governments to substantiate their commitment to ensuring a swift return to sound and sustainable public finances in line with the stability and growth pact in finalizing their 2010 budgets and medium-term fiscal plans.
ECB Governing Council member Axel Weber recently warned that recent improvements in economic indicators are only green shoots of recovery, while there remain considerable downside risks. He said until the global economic recovery becomes self-sustainable, there is a need to continue policy stimulus. Another ECB rate-setter, Erkki Liikanen, said in late September, that as long as the output growth in countries remained modest and the output gap continued to grow, the risk of domestically generated inflation remains remote.
Eurozone annual inflation stayed negative for the fourth month in September on easing energy prices. However, the inflation rate is expected to normalize towards 1% in the coming months. The ECB aims to keep inflation rates below, but close to 2% over the medium term.
In September, the ECB also raised its inflation forecasts. The central bank now expects consumer prices to rise 0.4% in 2009 and 1.2% in 2010. In June, it had predicted inflation to stay at 0.3% in 2009 and at 1% in 2010.
Earlier in the day, the Bank of England kept its key interest rate unchanged at a historical low of 0.5% and decided to continue with its GBP 175 billion asset purchase scheme. On Tuesday, the Reserve Bank of Australia became the first Group of 20 central bank to raise rates after the global recession.
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