ECB cuts expected amid record lows in bank lending

Deterioration in sentiment indicators has increased the chances of cuts Bratislava – Arabstoday The European Central Bank, meeting in the Slovakian capital of Bratislava, could cut its interest rates from current record lows and also unveil new measures to kick-start stymied bank lending, analysts say. Many ECB watchers agree that a further reduction in the bank's "refi" refinancing rate -- held at an historic low of 0.75 percent since July 2012 -- may not actually prove very effective.
But the central bank has few other weapons at its disposal for the time being, analysts argue.
"The latest deterioration of sentiment indicators has clearly increased the chances for more ECB action this week. Indeed, the majority of financial market participants even seem to be expecting a rate cut," said ING DiBa economist Carsten Brzeski.
But the expert said the case for such a move was not quite so clear-cut.
"A rate cut without additional efforts to repair the transmission mechanism would quickly go up in smoke and could even be regarded as an act of desperation," Brzeski said.
"It is hard to believe that the ECB would first cut rates and come up with a broader SME (small and medium-sized enterprises) funding scheme later."
ECB board member Joerg Asmussen cautioned last week that additional monetary easing may not actually prove very effective, since it would not reach the countries, or the areas of the economy, that would need it most.
Given the high level of fragmentation of eurozone credit markets, with the countries worst affected by the debt crisis having to pay higher premia than core countries, the so-called monetary policy transmission mechanism cannot function properly.
That is the process through which monetary policy decisions feed through into the real economy via a wide range of factors, including money market interest rates and expectations.
Furthermore, even though the ECB has pumped unprecedented amounts of liquidity into banks, those banks do not appear to be lending it on to small and medium-sized enterprises -- which form the backbone of the eurozone economy.
Indeed, SME access to bank loans is continuing to deteriorate, new data showed last week.
Markit chief economist Chris Williamson said the ECB's decision-making governing council "is widely expected to deliver a quarter-point cut in its main policy rate after disappointing survey data highlighted the spread of the region's downturn to Germany.
"Analysts are also hoping to see the ECB discuss non-standard measures, notably to help lift banking lending in the region's struggling periphery," Williamson said.
UBS economist Reinhard Cluse said any moves to get credit flowing again to the SMEs would take time, because they would likely require the European Investment Bank becoming involved.
And that would need the agreement of the EU and national governments.
"A top-level agreement could probably be reached relatively quickly. However, the problem with such a loan guarantee scheme is that it would take quite a bit of time to roll it out at the micro-level and that it is therefore unlikely to achieve quick results," Cluse argued.
Slowing eurozone inflation -- to 1.2 percent in April from 1.7 percent in March -- would give the ECB room to trim interest rates, meanwhile.
And in Germany, the bloc's biggest economy, inflation was as low as 1.1 percent, "confirming that underlying price pressures in even the eurozone's strongest economies are very weak. This should all encourage the ECB to announce additional policy support," said James Howat at Capital Economics.