Cost of borrowing set to hit historic low

THE cost of borrowing is set to hit a historic low as the European Central Bank (ECB) prepares to cut interest rates by up to half a per cent.

With rates set to fall to 2.25% following an announcement today and with banks and building societies expected to pass on the reduction within days, borrowing will be not have been so cheap here since the beginning of the 1950s.

But while the news is good for mortgage holders and other borrowers a 30-year mortgage of €200,000 could cost €56 less per month or €672 in a year savers will see the returns on their nest eggs slump.

The drastic cut, to be agreed at a meeting of the ECB Governing Council in Frankfurt today, is an attempt to boost investment and kickstart growth across a slumbering eurozone economy.

"All through 2002 the council members kept saying the economy is going to recover but I think they have lost a bit of confidence that it's going to happen. They were anticipating that average growth would be 1.6% in 2003 but most forecasts now say it's going to be 1.2%," said Bank of Ireland's chief economist, Dan McLaughlin.

One thing that might cause the council to hesitate is the expectation of war and the fear that even a substantial cut in rates might not provide a sufficient stimulus to rejuvenate economic activity. But Mr McLaughlin said it was clear a shock was needed and if it was to be effective, it could not be less than 0.5%.

"And this is not necessarily the low of the cycle. Growth prospects are so adverse that the ECB may well cut further. It's worth remembering the interest rate in the United States is 1.25%," he said.

Savers who locked into fixed rate deals in the Special Savings Incentive Scheme (SSIA) will escape the cut but regular deposit account holders will be hit.

With inflation running at 4.8%, returns on deposits are now negative in real terms.

"We all tend to say an interest rate cut is a good thing but in the household sector, you have 400,000 householders with mortgages but about 1.2 million householders in total so there are far more savers in aggregate than borrowers," Mr McLaughlin said. He played down fears that increased affordability of mortgages might result in further increases in house prices.

"In the past maybe, but by the end of the year I think house prices will be flat simply because the supply is getting so big, it will match the demand," he said.