ECB cuts deposit rate, restarts asset purchase program

FRANKFURT, GERMANY - JUNE 13: (FILE PHOTO) A huge euro logo is seen in front of the headquarters of the European Central Bank (ECB) on June 13, 2005 in Frankfurt, Germany. In the fight against the recession in many countries of the euro-area the European central bank lowered the key interest again clearly. The most important interest for the supply of the credit and finance with central bank money is reduced by 0,5 per cent points to 2,0 per cent. (Photo by Ralph Orlowski/Getty Images)

The European Central Bank (ECB) on Thursday announced its key policy decisions to cut the deposit rate by 10 basis points to minus 0.50 percent and to restart net purchases under its asset purchase program (APP) at a monthly pace of 20 billion euros (about 21.9 billion U.S. dollars) as from Nov. 1.

The eurozone base interest rate and the rate on the marginal lending facility will remain unchanged at their current levels of 0.00 percent and 0.25 percent, respectively, the bank said.

The ECB Governing Council said it now expects the key interest rates to remain at their present or lower levels “until it has seen the inflation outlook robustly converge to a level sufficiently close to but below 2 percent within its projection horizon,” dropping the timeframe of “at least through the first half of 2020” as stated in July’s policy guidance.

As for bond purchases, which were once suspended in December 2018, the bank said it expects the program to run “for as long as necessary to reinforce the accommodative impact of its policy rates, and to end shortly before it starts raising the key ECB interest rates”.

Reinvestments of the principal payments from maturing securities purchased under the APP will continue for an extended period of time past the date when the ECB starts raising its key interest rates, and “in any case for as long as necessary,” it said.

It also changed the modalities of its quarterly targeted longer-term refinancing operations (TLTRO III) “to preserve favorable bank lending conditions, ensure the smooth transmission of monetary policy and further support the accommodative stance of monetary policy”, including an extension of the maturity from two to three years.

The ECB also said a two-tier system for reserve remuneration will be introduced, in which part of banks’ holdings of excess liquidity will be exempt from the negative deposit facility rate, a move seen as the central bank’s response to concerns over the impact of negative rates on banks.

The central bank last cut interest rates in March 2016, when it set the deposit rate at minus 0.4 percent.

“The decisions were taken in response to the continued shortfall of inflation with respect to our aim,” ECB President Mario Draghi said at the press conference on Thursday following a policy meeting of the ECB Governing Council.

He said that incoming economic data since last meeting showed “a more protracted weakness in the euro area economy, the persistence of prominent downside risks and muted inflationary pressures.”

Also on Thursday, Draghi announced the bank’s latest forecasts of euro area annual GDP growth, with projections for 2019 and 2020 revised down to 1.1 percent and 1.2 percent respectively.

Annual inflation forecasts have been revised down over the entire projection horizon, to 1.2 percent in 2019, 1.0 percent in 2020 and 1.5 percent in 2021.

Draghi described the much-anticipated policy package as “powerful” not only in the short term but also in the long run, and said the Governing Council believed it should be adequate to re-anchor inflation to expectations.

He also reiterated the bank’s stance for more fiscal policy supporting the area’s economy, saying there was unanimous consensus in the meeting that “it’s high time for fiscal policy to take charge.”

Draghi urged governments with fiscal space to act in an effective and timely manner, and in countries where public debt is high, governments need to pursue prudent policies to create conditions for automatic stabilizers to operate freely, he said.

Thursday’s rate cut, restart of bond-buying and a policy package to prop up slowing economy in the euro zone are generally in line with market expectations.