Eurozone banks braced for rates cut

Eurozone interest rates are expected to be slashed again tomorrow as part of a package of radical measures to breathe new life into the moribund economy.

The European Central Bank could slash the already rock-bottom borrowing rate of 0.25% to 0.1%, analysts say
The European Central Bank could slash the already rock-bottom borrowing rate of 0.25% to 0.1%, analysts say

It means all eyes will be on Europe tomorrow rather than the Bank of England, where rates are expected to be held at 0.5%, despite rumblings that some members of the Monetary Policy Committee (MPC) are edging closer to voting for a hike.

Radical stimulus policies from the European Central Bank (ECB) could see the already rock-bottom borrowing rate of 0.25% shaved to 0.1%.

The bank's president Mario Draghi may also announce a cut in the deposit rate for lenders that hold money with the ECB, already at zero, to negative - effectively a penalty for hoarding cash designed to encourage lending.

Policy makers fear the possibility of the eurozone plunging into a damaging spiral of falling prices, with an unexpectedly sharp drop in inflation to 0.5% in May adding to the threat.

Low inflation makes it difficult for individuals and governments who have borrowed money to reduce debts. Deflation can stifle growth as consumers delay spending.

Meanwhile, eurozone unemployment remains stubbornly high at 11.7% while the latest Markit/CIPS purchasing managers index (PMI) survey suggested growth slowing amid an "uneven, stuttering and lacklustre recovery".

Analysts say the ECB looks certain to announce a radical package of measures, especially as comments from officials have built up the prospect of action.

Signs of healthy growth in the UK have created the stark contrast facing policy makers on opposite sides of the Channel.

But prospects in Europe, a key trading partner to Britain, are still key to domestic economic hopes, with the possibility of further crisis on the continent seen as a risk to the recovery in the UK.

ECB measures might include, in addition to rate cuts, making more cheap credit available to banks.

Policy makers could also consider large-scale bond purchases similar to the quantitative easing schemes employed by the UK and the US - a policy that the ECB has so far resisted and could prove politically-fraught in the 18-member zone.

Alternatively it might choose to buy securities based on loans to small firms as a tool to stimulate businesses' access to finance.

Howard Archer, chief UK and European economist at IHS Global Insight, said: "Economic conditions in the eurozone certainly justify strong action, and if the ECB fails to deliver having built up expectations, it risks upsetting the markets and also denting its credibility."

Martin van Vliet of ING Bank said: "The lower-than-expected eurozone inflation reading for May cements expectations of ECB action on Thursday."