The European Central Bank has extended its pledge to keep rates on hold at record lows until the middle of 2020 as policymakers grapple with mounting concerns about weak inflation.
The ECB’s governing council left the benchmark main refinancing rate at zero and the deposit rate at minus 0.4 per cent in their policy meeting on Thursday.
The bank strengthened its message on borrowing costs, saying it now expected to keep both interest rates on hold “at least through the first half of 2020.” It had previously said it expected rates to stay on hold “at least until the end of 2019”.
Speaking during a press conference after the decision, ECB president Mario Draghi said that policymakers had discussed the possibility of cutting rates, as well as the option of re-starting its quantitative easing programme of bond-buying, which halted at the end of last year.
Mr Draghi presented a fresh round of forecasts for inflation and growth. The ECB forecasts GDP growth of 1.2 per cent this year, up 0.1 percentage points from its previous forecast in March, and 1.4 per cent in 2020 – down 0.2 percentage points from the previous forecast.
The ECB slightly raised its economic forecasts for 2019. Inflation will average 1.3 per cent this year, it expects – up 0.1 percentage points from its forecast in March – and 1.4 per cent next year – down 0.1 percentage points from the previous forecast.
Risks remain tilted to the downside due to geopolitical uncertainties, rising protectionism and vulnerabilities in emerging markets, Mr Draghi said, stressing that the ECB stands willing and able to act if evidence of a slowdown mounts.
“Prolonged global uncertainties” are weighing in particular on the eurozone’s manufacturing sector, but other sectors are showing resilience and the labour market remains positive, he said.
He rebuffed suggestions that negative rates were damaging the health of the eurozone’s banks, saying “so far we see no effect”.
The ECB’s dovish tilt comes days after US Federal Reserve chair Jay Powell hinted that his central bank could cut interest rates. The world’s two most important central banks are becoming increasingly concerned that an intensification of the global trade war could knock growth off course.
Concerns are growing that the eurozone’s economy will not generate a sufficient level of inflation for the ECB to hit its price stability target of just under 2 per cent.
Inflation fell sharply in May to 1.2 per cent and, while some bounceback is expected in June, markets increasingly doubt the ECB’s chances of hitting its target in the coming years.
A closely watched measure of markets’ price pressure expectations, the so-called five-year-on-five-year inflation swap rate, is below 1.3 per cent and close to levels last seen in 2016, when the ECB ratcheted up monthly bond purchases through its quantitative easing programme from €60bn to €80bn.
German 10-year borrowing costs are hovering near an all-time low at minus 0.226 per cent. While that in part reflects high demand for one of the safest euro-denominated assets, it also signals that investors expect hardly any inflation, even in the region’s strongest economies.
Mr Draghi noted on Thursday that markets’ inflation expectations were sliding around the world, blaming it on “some kind of global factor” rather than being intrinsic to the eurozone economy itself.
The ECB also unveiled the terms of its latest round of auctions of cheap central bank cash, dubbed TLTRO III, saying that it would offer the loans at 10 basis points above the rate applied to the main refinancing operations. Those operations currently offer cash at zero per cent. An increase in lending by banks would lead to lower TLTRO loan costs — up to a minimum of 10 basis points above the deposit rate, the ECB said.
The bank intends to reinvest the proceeds of assets bought under its €2.6tn quantitative easing programme, but which have since matured, “for an extended period of time past the date when [we start] raising the key ECB interest rates”.
The euro rose 0.5 per cent against the dollar following the decision, suggesting markets believe the ECB’s action is not aggressive enough to offset weaknesses in the economy.
Some investors want to see more drastic action: the ECB is coming under renewed pressure to restart the expansion of its €2.6tn QE programme.
Melvyn Krauss, senior fellow at Stanford University’s Hoover Institution, said Mr Draghi should initiate a fresh expansion of bond buying before his term in office ended in October.
“The likelihood that the US Federal Reserve will be cutting interest rates soon means that, unless the ECB takes strong measures, like QE, to counteract Europe’s rapidly deteriorating inflation situation, a stronger euro could result that would put the eurozone economy into recession,” Mr Krauss said.
Other ECB watchers are increasingly concerned that the central bank lacks the ammunition needed to boost inflation.
“The idea that the ECB can cure the eurozone’s economic malaise, or even its lack of inflation, with a few tweaks here and there to monetary policy, seems far-fetched,” said Kit Juckes, of Société Générale. “The eurozone is desperately in need of co-ordinated fiscal easing.”