The European Central Bank president Mario Draghi say the key benchmark rate would be cut by 25 bps to a record low .25 percent, and the euro plunged over 200 pips prior to rebounding slightly. The marginal lending rate was lowered to .7 percent with the deposit rate still near zero.
The recent data out of the eurozone may have tipped the scales in a rate cut’s favor. The eurozone’s unemployment reached record levels of 12.2 percent. Inflation is dropping lower than one percent and many are worried about deflation in a sick economy. “There comes a point where inflation is so weak, and coming in weaker than anticipated, that the case for loosening policy becomes too hard to resist,” according to Richard Barwell, senior European economist at the Royal Bank of Scotland Group. Barwell predicted the cut, while only three of nearly 70 economists surveyed by Bloomberg seen a rate cut as an option.
A rate cut may have been the only option as the ECB’s current monetary policy tools have rendered almost useless to the European economy. The ECB’s mandate does not allow a Federal Reserve or Bank of Japan style quantitative easing program. Large purchases of public debt are open to legal challenges.The 17-nation euro-bloc finally edged out a positive GDP number this year, but data is suggesting that all is not well and Europeans continue to struggle.
Ken Wattret, BNP Paribas SA-London, said “If inflation stays low, as seems likely, and the threat of inflation expectations becoming unanchored to the downside increases significantly, then all the tools in the box can come into play.” However, it has taken this long for the benchmark rate to see a cut, so it is unlikely these tools Mario Draghi speak of will come out to play anytime soon.