Discord over ECB's next rate move

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The European Central Bank will keep interest rates unchanged this week, economists forecast in a Reuters poll, but they cannot agree on the chances of a cut in the next few months due to a murky economic outlook.

While a large majority said the Governing Council will hold the main refinancing rate at a record low 0.75 percent at its Thursday meeting, there was no consensus over its next move, reflecting a similar split among policymakers themselves.

A wafer-thin majority - 38 out of 73 analysts polled over the last few days - said the ECB will remain on hold for the next three months. The majority shifts to a 25 basis point cut by the end of June, but by a margin of only one respondent.

There are two schools of thought.

In one are those who point to poor economic data for the fourth quarter that signal a deepening euro zone recession. They argue that this warrants another cut, no matter how limited its effect may be as rates are already near zero.

With the sovereign debt crisis festering, there are few signs of an early turnaround for the euro zone economy, although business surveys last week suggested the recession may at least have passed its nadir.

On the other side are those who say ECB President Mario Draghi has shown no inclination to repeat last July's rate cut. Instead he seems to be waiting for the results of the bank's programme to buy the bonds of troubled euro zone governments - which has yet even to start.

That means the most likely outcome is that the ECB stays on the sidelines, at least for now.

“The Council's divided, the outlook's uncertain,” said Alan Clarke, economist at Scotiabank. However, he said policymakers usually reach consensus rapidly once the economic outlook becomes clearer. “It doesn't unduly disturb me there's a split, because as the euro zone's demonstrated in the last year or two, things can change just like that,” he said.

Clarke thinks the ECB is more likely to stay on hold. The Governing Council is already pessimistic about the economic outlook, so data would have to worsen yet more for members to swing behind another rate cut.

The euro zone economy has shrunk for three consecutive quarters, with GDP down 0.6 percent year-on-year in June-September 2012. A flash estimate for the fourth quarter is due on February 14.

The Reuters poll was conducted before global regulators gave banks four more years and greater flexibility to build up cash buffers so that they can use some of their reserves to help struggling economies to grow.

SPLITTING IMAGE

Disagreement among the forecasters merely reflects the split among the ECB's own policymakers. Board member Yves Mersch was quoted last month as expressing his opposition to cutting the refi rate any further, saying he had not heard Draghi making any departure from the current policy line.

However, Governing Council member Jozef Makuch said the bank had a “very serious debate” last month about cutting interest rates.

There was similar debate among survey respondents over the meaning of Draghi's comments at the December meeting that the Council had a wide-ranging discussion on interest rates.

“The markets over-interpreted the dovish comments by Mario Draghi in December,” said Lena Komileva from G+ Economics.

She forecast a cut in the second quarter, but added: “While the ECB's bias will remain dovish over the next 12 months, the decision to cut rates again will depend on the will of a small minority of core euro zone countries rather than the euro zone majority.”

Others, such as Christian Schulz from Berenberg Bank, reckon the economy will show enough progress for rates to stay on hold for the time being. He expects the ECB to raise the refi back to 1 percent by the end of the year, which represents the most hawkish forecast in the poll.

“The recovery should start to gain a little bit more pace towards the end of the year,” said Schulz, adding that the ECB would lead the main central banks in tightening policy. “The ECB will want to reassert inflation-fighting credentials by raising rates first again, as in 2008 and 2011.”

Euro zone inflation held steady at 2.2 percent in December despite expectations of a fall, only a little above the ECB's target ceiling of 2 percent. - Reuters


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