Europe to keep interest rates low

While most Americans were busy eating hot dogs and celebrating the birth of our nation, two of Europe’s central banks were sending the clearest signals yet that they will keep interest rates low for the foreseeable future.

Here is the story from the New York Times:

Answering critics who said they were running out of ways to promote growth and lending, the European Central Bank and the Bank of England on Thursday did something neither had done before, committing themselves to keeping interest rates low indefinitely.

The bid to reassure investors brought the two central banks into closer alignment with the Federal Reserve, which, under Chairman Ben S. Bernanke, has adopted a policy of becoming more open about its intentions.

At the same time, they appeared eager to signal that they would not follow the Fed in preparing for a gradual withdrawal of economic stimulus.

Mario Draghi, the president of the European Central Bank, based in Frankurt, said at a news conference that crucial interest rates would “remain at present or lower levels for an extended period of time.” Until Thursday, the bank had steadfastly refused to pin itself down on future policy.

“It’s not six months,” Mr. Draghi said. “It’s not 12 months. It’s an extended period of time.”

Mr. Draghi also said that the central bank was signaling a “downward bias” in interest rate policy, meaning further cuts were possible or even likely.

The Wall Street Journal added this context:

Still, Mr. Draghi stopped short of the data-based road map the Fed gives. The U.S. central bank has said it will keep rates near zero as long as the unemployment rate is above 6.5% and inflation expectations stay anchored.

The ECB’s strategy “is a weak form of forward guidance. But it is guidance nonetheless,” said Holger Schmieding, economist at Berenberg Bank.

Mr. Draghi’s comments didn’t materially alter the outlook for ECB policy, analysts said. Even before Thursday’s meeting many economists expected interest rates to stay where they are well into next year at least. Those expecting a change thought the next move would be a rate cut, not an increase. “A rate cut is there if needed but is not imminent,” Mr. Schmieding said.

The ECB said the economy should gradually improve in the coming months. Euro-zone gross domestic product has contracted for 18 straight months through the first quarter of 2013. Inflation remains subdued.

But a vibrant, job-creating rebound remains elusive. Unemployment is at a record rate of 12.2% in the euro zone, trimming spending on big-ticket items such as automobiles. It is above 25% in Spain and Greece and approaching 18% in Portugal, putting additional strain on public debt. Small businesses in southern Europe pay considerably higher rates on loans than their German counterparts, ECB data showed Thursday.

The Financial Times said it was the first time the ECB had offered forward statements about interest rate policies:

The bank cut its main interest rate to 0.5 per cent in May and its deposit rate stands at 0 per cent. Mr Draghi said the bank kept an open mind on adopting its first negative interest rate in the future.

While the bank still expects a gradual recovery for the eurozone later in the year, Mr Draghi presented recent improvements in business surveys in a more gloomy light than in previous comments, pointing out that the improvement amounted to a slower pace of contraction in the indicators.

Following Mr Carney’s first meeting as chair of the Monetary Policy Committee, the Bank of England chose to issue a rare statement along with its decision to hold rates.

“The Committee noted that the incoming data over the past couple of months had been broadly consistent with the central outlook for output growth and inflation contained in the May report,” the BoE said.

“The significant upward movement in market interest rates would, however, weigh on that outlook; in the Committee’s view, the implied rise in the expected future path of Bank Rate was not warranted by the recent developments in the domestic economy.”

However, the market still expects the first interest rate rise in 2015, rather than the 2016 date forecast in May and June before the Federal Reserve signalled it would rein back its quantitative easing programme

All of the coverage pointed out that the shift was prompted by U.S. Federal Reserve statements that sent the markets into turmoil trying to determine when it was going to end its easy money programs. This looks like an attempt by Europe to reassure investors that the time of low interest rates will continue, especially as unemployment remains high.

And returning some stability to the markets will be a much welcome event for everyone.