Comments fuel ECB rate cut prospect

Speculation that the European Central Bank (ECB) would deliver a rate cut next month grew yesterday when the head of Belgium's central bank, Mr Guy Quaden, said that an easing could help to check the pessimism that has taken hold among euro-zone firms and households.

The comments reinforced financial markets' perception that the bank is paving the way for a rate cut at its December 5th meeting and helped drive down euro-zone government bond yields.

Mr Quaden said the current level of interest rates could not be blamed for low European growth. However, he believes that an easing could help staunch negative sentiment across the 12-member currency area.

The latest batch of data, which showed French growth was weaker than expected in the third quarter and inflation remained subdued in two key German states, only reinforced expectations that weakness in euro-zone growth warranted lower rates.

In Finland, ECB board member Dr Sirkka Hamalainen said monetary policy could not directly boost economic growth and jobs in the long term, but Mr Quaden said in Brussels that a rate cut could have its uses.

"A rate cut could help to decrease pessimism, to increase optimism of economic agents," he told a news conference.

He said the ECB, which has left rates unchanged for more than a year, would be "taking into account that prospects for growth are now weaker than we expected a few months ago".

It would also be "forward looking" in its evaluation of inflation, he said, becoming the latest ECB official to suggest that the inflation-fighting bank is looking beyond the current breach of its self-imposed 2 per cent ceiling for inflation.

Mr Quaden said short- and long-term rates were already low but that uncertainty - rather than the current level of rates - was crimping spending, particularly by firms.

This could suggest that the ECB is wavering towards taking half a percentage point off rates in December, a move which would be sufficiently dramatic to boost activity immediately.

Dr Dan McLaughlin, chief economist with Bank of Ireland, is expecting a cut of 50 basis points to be delivered, noting the increasing reference to boosting confidence in ECB rhetoric over recent weeks.

A cut of 25 points, while worthwhile, would be unlikely to have an instant effect on confidence, Dr McLaughlin said.

He believes the ECB has "implicitly upped its inflation target", thus easing the path towards a rate cut.

Davy Stockbrokers chief economist, Mr Robbie Kelleher, was also predicting a cut of 50 points yesterday.

Mr Kelleher said the ECB appeared to judge the risks of inaction to be greater than the problems attached to overly extreme cuts.

While accepting that a rate cut was necessary for the promotion of euro-zone growth, Mr Kelleher is concerned however that a sizeable cut could help fuel a "bubble" in the Irish housing market.

Mr Dermot O'Brien, chief economist at NCB, agrees that the most visible domestic effects of a rate cut would be seen in the housing market.

While he believes a reduction of 50 points could be easily justified for the euro zone, he is sceptical of the ECB's willingness to cut so much at once, forecasting instead a 25-point reduction.

- (Additional reporting Reuters)