Faced with the prospects of debilitating deflation, the European Central Bank on Thursday unveiled a host of unusual measures designed to spark lending at all costs in a bid to boost businesses and consumers and keep the region’s economy moving forward.
The ECB lowered its overnight lending rate to a new record low of 0.15 percent, and the bank’s president, Mario Draghi, acknowledged there was no room left for conventional tools. The central bank announced a new low-cost lending program for banks to borrow in order to lend, and then did what’s been rumored for months, he went negative.
Negative interest rates, that is. Private-sector banks are normally encouraged to park their deposits with the central bank, which pays them a small return in exchange. The ECB Thursday announced it would begin charging banks .10 percent for deposits. It effectively means they’d have to pay to keep deposits at the ECB, and instead have an incentive to either lend out their reserves or invest them.
McClatchy reported in early April that such a move was likely because inflation, or the rise in prices, was anchored at under 1 percent, and that Europe faced the possibility of Japan-like deflation. That’s when prices and wages fall in a downward spiral that makes it hard for an economy to break out and regain healthy rates of growth. Europe’s inflation rate has been under 1 percent for eight months now, and revised ECB projections now have it at 0.7 percent for the year.
The ECB is the first major bank to experiment with negative interest rates, something the U.S. Federal Reserve was unwilling to try. The Fed instead opted for quantitative easing, a controversial program involving the purchase of government and mortgage bonds designed to bring down long-term borrowing costs for both firms and consumers.
The ECB said it is preparing its own list of asset purchases, and Draghi signaled the central bank is throwing in the towel for conventional measures. He said that “for all practical purposes, we have reached the lower bound” for interest rates.
“Taken together, the ECB actions comprise a pretty powerful package that stands a decent chance of gradually lifting bank lending,” said Howard Archer, chief European economist for forecaster IHS Global Insight, adding that absent the moves there was danger that financial markets would have concluded the ECB had “under-delivered.”
Others are taking a wait-and-see approach.
“We are encouraged by the ECB’s actions, but acknowledge that it will take some time before we know whether the policy changes will have their intended effects,” wrote Jay Bryson, global economist for Wells Fargo Securities, in a note to investors.