ECB holds rates, spots signs of stabilization

By David Mchugh

Associated Press

Published: Thursday, Jan. 12 2012 8:05 a.m. MST

Mario Draghi, President of the European Central Bank listens to a question a press conference in Frankfurt, Germany, Thursday, Jan. 12, 2012. The ECB announced to keep their key interest rate unchanged.

Michael Probst, Associated Press

Enlarge photo»

FRANKFURT, Germany — The European Central Bank left its key interest rate unchanged at 1.0 percent on Thursday as bank President Mario Draghi spotted signs that the troubled eurozone economy was steadying.

Draghi said after the decision that recent indicators showed "tentative signs of stabilization of activity at low levels."

However, he conceded that the economy of the 330 million people in the 17 countries using the shared currency faces "substantial downside risks," not least from a debt crisis that's been raging for the best part of two years.

"It is not possible to express a judgment of confidence," he said at a news conference.

Thursday's decision by the ECB's 23-member governing council was widely anticipated in the markets and follows two quarter point reductions in the previous two months aimed at spurring lagging growth. Rate cuts can spur growth by lowering borrowing costs for businesses.

In December, the bank also offered banks large helpings of cheap credit over a long three-year period in an effort to shore them up against the turmoil stemming from the debt crisis.

Boosting liquidity has been the bank's chief tool against the crisis that's seen Greece, Ireland and Portugal get financial rescues and has shown signs of spreading to much-bigger Italy and Spain. It is aimed at keeping the crisis from forcing banks to cut back on the loans companies need to operate and grow.

Draghi said the €489 billion ($623 billion) taken up by 523 banks late last month was having an effect, giving them enough cash to prevent a widespread reduction in available credit across the eurozone, although he said some parts were showing tighter credit.

Draghi said the credit infusion "prevented what could have been a major funding constraint for our banks," and had warded off "a credit contraction that would have been more serious."

He rejected suggestions that the added cash was simply flowing back to the ECB's safe-haven deposit facility, which has seen record use by banks even at a low interest rate of 0.25 percent.

Draghi said the bank had seen signs that this money wasn't just being diverted into the deposit facility.

"It circulates in the real economy," Draghi said.

He revealed that the banks that had bid for the loans and the ones stashing money overnight in the deposit facility were usually not the same ones. He said banks that took the loans tended to be ones that had bond issues maturing this year. That means they could use ECB money to pay those off if need be instead of finding the money by cutting back loans to the economy.

Markets are now looking for signs about whether the bank could cut rates further in coming months. The ECB has never taken its benchmark rate below 1.0 percent in its 13-year history. Some economists think further rate cuts may be coming, especially if the eurozone slips back into recession.

Draghi declined to answer when asked if 1.0 percent remained the floor.

"We never precommit," he said. "In this situation of high uncertainty, we look at all factors ... we monitor all developments and we decide."

A shrinking economy would make it harder for indebted countries, such as Italy, to reduce their debt levels and undermine the willingness and ability of the better-off countries, such as Germany and France, to help them.

Economists are of different opinions about whether 1 percent will remain a rock bottom floor for the ECB, or whether it will eventually join the United States Federal Reserve and the Bank of England in pushing rates closer to zero — the Bank of England left its key rate unchanged at 0.5 percent on Thursday.

Many economists think Europe could already be in a mild recession. Growth figures for the fourth quarter of last year are not due until Feb. 15.

The question is, how deep will any down turn be. Some recent indicators such as German exports — important to the eurozone's biggest economy — have improved while others have steadied, suggesting any slowdown might not be as marked as feared.

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