The European Central Bank has cut its benchmark interest rate for the first time in 10 months. But it's a largely symbolic move that will have little effect on borrowing costs or lending practices, leaving troubling questions about the recession-battered euro zone's ability to dig itself out of a deepening hole.
The modest reduction on Thursday of the ECB's key refinancing rate by a quarter of a percentage point to a record low 0.5 per cent came a day after another grim unemployment report for the region and a further drop in inflation to 1.2 per cent in April. Falling inflation – and the spectre of deflation spreading beyond the hardest-hit countries – removed the chief argument against easing by the bank's more hawkish board members.
The central bank also lowered its marginal lending rate (the cost to banks of overnight loans) to 1 per cent from 1.5, while keeping its deposit rate at zero, as most analysts expected. ECB president Mario Draghi also unveiled other measures designed to get credit moving again and signalled that further cuts are in the offing.
The rate moves show the ECB is "not asleep at the switch, responding to a run of weaker than expected data in recent weeks," Andrew Grantham, an economist with CIBC World Markets, said in a note.
But banks already had access to essentially no-cost money from the central bank and there is little demand for loans. More importantly, the ECB cut will do nothing to fix broken credit transmission channels, stimulate lending or reduce actual borrowing costs, which vary widely. Beleaguered small and medium-sized businesses in Spain and Italy pay far more for borrowed capital than their counterparts in Germany or the Netherlands.
Mr. Draghi has long warned that the effects of easier monetary policy are not reaching the economies that need it most, because of the wide interest-rate spreads between stronger and weaker euro-zone members. He underscored that point again at a press conference after the bank's policy meeting, which was held in Bratislava.
"To ensure adequate transmission of monetary policy, it is essential that the fragmentation of euro-area credit markets continue to decline further," Mr. Draghi said.
By itself, the rate cut "will do little to improve growth prospects in the region, with the effective overnight rate already so low," Mr. Grantham said. "To greatly change growth prospects, we will need to see countries lift off on fiscal tightening or for the ECB to pursue more aggressive monetary policy aimed at longer-dated peripheral yields."
The interest-rate cut "mainly provides support for peripheral banks and could boost confidence marginally," ING economist Carsten Brzeski wrote in a note. "[Thursday's] meeting confirms that the bright minds in the eurotower are still working hard to come up with a new magic bullet. In the meantime, the only thing Draghi found in his toolkit was an old tool and a chill-pill to keep markets happy in the waiting room."
Which leaves the question of what the central bank does next.
"Our monetary policy will remain accommodative for as long as needed," Mr. Draghi said.
The central bank will keep the lending taps to the region's distressed banks wide open for at least another year, and is looking at ways "to promote a functioning market for asset-backed securities collateralized by loans to non-financial corporations," Mr. Draghi said.
More surprising was Mr. Draghi's comment that the ECB has not closed the door to negative deposit rates to spur banks to put their capital to use in the economy rather than parking it at the central bank. "On the deposit facility rate, we said it in the past, we are technically ready. …" Mr. Draghi added. "And we will again look at this with an open mind and we stand ready to act."
The comment had an immediate impact in currency markets, driving the euro lower.