ECB leaves interest rates at 1% but cuts growth forecast

THE EUROPEAN Central Bank (ECB) left interest rates unchanged at 1 per cent yesterday, but sharply downgraded its growth forecasts for the euro zone.

ECB president Jean-Claude Trichet said the central bank would wait to see the impact of its plan to buy €60 billion in covered bonds before making any future policy adjustments.

Mr Trichet has not ruled out further interest rate cuts or an expansion of the covered bond purchase scheme to other assets.

The ECB said it now expected the euro-zone economy to contract in terms of real gross domestic product (GDP) by between minus 5.1 per cent and minus 4.1 per cent in 2009 and by between minus 1 per cent and plus 0.4 per cent in 2010.

Mr Trichet gave more details about the ECB’s plan to buy covered bonds, which are issued by banks and backed by public-sector loans or mortgages, in a bid to boost the moribund euro-zone economy.

The plan, which was agreed in principle at May’s ECB governing council meeting, marked a first step towards following the asset purchase programmes unveiled by the Bank of England and US Federal Reserve.

The plan was controversial within the ECB governing council and the move prompted a surprise attack on the central bank this week from German chancellor Angela Merkel, who warned that unconventional policies being pursued by monetary authorities worldwide risked exacerbating the economic crisis.

However, Mr Trichet stressed at the press conference following yesterday’s rate decision that the move to buy covered bonds would not hamper the central bank’s pursuit of price stability.

He said the central bank’s focus remained on keeping inflation in line with its target of an annual rate “below but close” to 2 per cent.

He also stressed that the bank remained fiercely protective of its independence, adding that Dr Merkel told him in a phone call that she fully respected this.

“I was extremely happy that the chancellor could confirm that she was fully backing our independence and appreciated what we were doing,” he said.

At a press conference in Frankfurt, Mr Trichet outlined more information about the covered bond programme, which will involve direct purchases of the securities in the primary and secondary markets.

The bank will also buy bonds across the entire euro zone. The bonds will be purchased between July this year and June 2010.

The bonds must be eligible for use as collateral in the ECB’s financing operations and have a value of about €500 million, with a minimum value of €100 million.

They must also have a minimum rating of double A by one or more of the three main ratings agencies: Fitch, Moody’s and Standard Poor’s.

Mr Trichet said the bank would probably buy bonds between three and 10 years in maturity, adding that the exit strategy was a key part of the success of the programme.

Simon Barry, economist at Ulster Bank, said yesterday that it was “unlikely” that the ECB would lower interest rates again in the short term, while NCB Stockbrokers economist Brian Devine said the ECB was being “too cautious” in its approach to asset purchasing schemes.

“In the near term, deflationary pressures are abundant,” Mr Devine said.