Markets favourable to ECB rate cut but Draghi cautious

Markets reacted favourably to the ECB decision to halve its interest rate to 0.25%, signalling good news for Ireland as its bailout comes to an end.

ECB president Mario Draghi, however, was very cautious about the future prospects for the eurozone economy generally, warning that, in many areas, the risks were on the downside.

“Recovery is proceeding but it is weak, uneven, fragile, and starts from low levels,” said Mr Draghi. “The unemployment rate is still very high. It looks like it is stabilising but it is at the very top, so it is very important to have low interest rates.”

At a press conference after the governing council’s meeting, he congratulated Ireland on the progress and overall success of its bailout programme, saying it remained on track but adding “certainly more action is needed, especially in the banking sector”.

He hinted the ECB would prefer that the Government seek a precautionary credit line from the ESM. “The ECB, the IMF, and the Commission would say it would be useful to have a precautionary credit line in place, but it is also true the success has been quite significant but it is up to the Irish Government and we do not want to interfere,” he said.

Mr Draghi would not be drawn on the ECB’s assessment of bank assets and whether he would be particularly vigilant in relation to Spain, Ireland, and Germany, given the inaccurate results of previous tests.

The main reason he gave for the drop in interest rates was the latest inflation data, which showed a fall in October to 0.7%, from 1.1% a month earlier. “This decline was stronger than expected” he said. “We may experience a prolonged period of low inflation, to be followed by a gradual upward movement towards inflation rates below but close to 2% later on.” He would not be drawn on how long this period of low inflation might last.

Credit to the real economy remained subdued but last month’s bank lending survey tentatively signalled credit conditions for firms and households were stabilising, said Mr Draghi.

Referring to variations in the cost of credit across the eurozone, Mr Draghi said it was key that the fragmentation of eurozone credit markets fall further.

Finishing on a positive note, Mr Draghi said the eurozone’s debt and deficit was among the lowest in the world, far lower than that of the US or Japan.

He said the public deficit was actually a primary surplus of 0.7%, compared to 6% deficit in US and 8% in Japan. It had the highest current account surplus and with one of the lowest inflation rates.

“This does not translate automatically into a galloping recovery but gives you the fundamentals in which you can pursue the right policies,” said Mr Draghi. “Structural reforms are necessary for this to happen and, in the absence of this, we unfortunately will stay here for a long period of time.”

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