4 november 2011
Schroders Quickview: ECB cuts rates as Greek crisis escalates

In Draghi's first meeting as President, ECB cuts rates from 1.50% to 1.25%. Azad Zangana gives his views.

• ECB cuts rates in an effort to reduce risk of recession. This is Draghi’s first meeting as President of ECB.
•  However, the cut in interest rates is unlikely to have much of an impact on the real economy.
• The ECB is likely to take interest rates back to 1% in the coming months as we are unlikely to see a resolution to the Greek crisis anytime soon.

In his first press conference, Draghi initially pointed to downside risks to growth materialising, such as weakening external demand, and weaker survey evidence. However, in the question and answer session, he shocked the audience when he said that he expects a “mild recession” in the eurozone around the end of the year. He warned that eurozone inflation (currently 3%), is likely to remain above the Bank’s 2% target for some months. The ECB does however expect weakening growth and base effects from energy price rises in 2011 to help inflation fall below 2% in 2012. The ECB’s action follows panic in markets following the shock announcement of a Greek referendum by Prime Minister Papandreou regarding the package announced by eurozone leaders last week.

The latest from Athens suggests that Papandreou will not be allowed to delay the holding of a referendum until the new year. The IMF has stated that it will now withhold the delayed September tranche of Greece’s bailout until the outcome of the referendum is known. This means that there is a risk that Greece default’s on some creditors, with €2 billion and €1.6 billion of treasury bills maturing on the 11th and 18th of November. In addition, Papandreou’s Deputy Prime Minister and Finance Minister, Venizelos, is today leading rebels within the socialist Pasok party by denouncing the idea of a referendum.

Papandreou faces a vote of confidence tomorrow which had looked close before Venizelos’s attack, but now looks certain to lead to the collapse of the government. Interestingly, rumours of Papandreou’s resignation today helped lift equities higher before they were rebuked. Overall, the cut in interest rates is unlikely to have much of an impact on the real economy. Money market rates have been trading well below the ECB’s policy rate ever since the re-introduction of 3-month liquidity auctions. The ECB is likely to take interest rates back to 1% in the coming months as we are unlikely to see a resolution to the Greek crisis anytime soon. The European Central Bank (ECB) has cut its main policy interest rate today from 1.50% to 1.25% in an effort to boost market confidence and reduce the risk of a recession in the monetary union. This is Mario Draghi’s first meeting as President of the ECB as he succeeds Jean-Claude Trichet, who left at the end of October.