The Wall Street Journal-20080123-Credit Crunch- The Fed Acts- Europe Is Expected to Cut Rates- but the Timing Is Unclear
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Credit Crunch: The Fed Acts: Europe Is Expected to Cut Rates, but the Timing Is Unclear
DAVOS, Switzerland -- As recession fears rout global markets, the Federal Reserve slashes interest rates and the governor of the Bank of England hints at another rate cut, what will it take for the European Central Bank to finally cut its short-term interest rates? The short answer now: a little time.
The ECB has been an outlier among major central banks since the summer, keeping its key rate on hold as inflation worries trumped growth concerns, even as the Fed, the Bank of England and the Bank of Canada cut borrowing costs to rescue ailing economies. "Now, the question for the ECB is not if they'll lower rates, but when," says Neville Hill, an economist with Credit Suisse in London.
Pressure on the ECB is mounting. Investors yesterday priced in as many as three one-quarter-percentage-point ECB interest-rate cuts this year, which would bring the ECB's key rate to 3.25%. Markets are betting on a rate cut in May. Some economists say signs of a weakening in euro-zone growth prospects could bring a rate cut as early as March.
Despite some recent softening in their rhetoric, ECB policy makers have, so far, maintained that strong domestic momentum coupled with solid global growth could help the 15 nations that share the euro currency expand close to the euro zone's 2% trend rate this year -- even as the U.S. slows. But "if the U.S. problem is so large that the Fed has this kind of reaction, then it will have an impact in Europe as well," says Marco Annunziata, chief economist with UniCredit in London. "So the idea that Europe is doing just fine doesn't hold anymore."
Subtle shifts in ECB officials' recent rhetoric suggest that the ECB's 21-member Governing Council may be starting to worry more about weaker growth than higher inflation. Several have suggested that new central-bank growth projections in March could come in under December's estimate of gross-domestic-product growth around 2% this year. Others have stressed that the current inflation spike will be short-term and say the rate should fall back below 2% in 2009.
Meanwhile, Mervyn King, governor of the Bank of England, said in a speech yesterday that Britain's economic growth could slow "quite sharply" near term even though consumer-price inflation may accelerate. Mr. King said the central bank's key interest rate is probably restricting economic growth. In Japan, the central-bank governor said the Bank of Japan wouldn't rule out a cut in rates if economic conditions warrant, even though Japan's rates are already the lowest among major industrial nations. Governor Toshihiko Fukui spoke after central-bank policy-board members voted unanimously yesterday to keep rates steady.
Unlike the Fed, which is responsible for maximizing growth and minimizing inflation, the ECB's sole mandate is keeping euro-zone prices steady. For policy makers to consider a cut, euro-zone growth prospects need to deteriorate enough for policy makers to be able to argue that inflationary pressures are ebbing.
There are signs of such deterioration already. The ECB's most recent bank-lending survey showed euro-zone banks further tightened lending standards for households and firms late last year and expect to continue doing so. Policy makers and private economists alike already expect euro-zone growth for the last three months of 2007 to come in well below the third quarter's pace of about 0.8%, perhaps as low as 0.3%. Fresh evidence of weakness could come this week, as both the euro-zone purchasing managers' index -- which the ECB watches closely -- and a key survey of German business expectations are likely to continue slipping.
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Natasha Brereton in London and Megumi Fujikawa and Hiroshi Inoue in Tokyo contributed to this article.
