London: Europe’s two main central banks are under mounting pressure to cut interest rates aggressively on Thursday after a run of dismal economic data this week indicated the economic slump will be deeper and more prolonged than previously expected.
While many observers think the European Central Bank will reduce its benchmark rate by three quarters of a percent to 2.50% with some thinking it may cut by a full percentage point, the Bank of England is predicted to lower its rate by a whole percentage point to 2%, which would be equal to its lowest since the bank was founded in 1694.
Since their last meetings in early November, when the European Central Bank reduced rates by half a point and the Bank of England cut by a startling 1.50 percentage points, a raft of economic news has suggested a sharply deteriorating economic environment, diminishing price pressures and an ongoing reluctance by banks to resume normal lending to businesses and households.
Official figures have confirmed that the 15 countries that share the euro are in recession while inflation is falling at a faster rate than anticipated amid sliding energy and commodity costs. In Britain, the government has warned that the economy will contract by over 1% in 2009 and that deflation falling prices is a bigger threat than inflation in the coming months.
Some analysts actually think both banks should cut interest rates even more aggressively than the markets expect. Cuts spur growth by reducing borrowing costs but can also make inflation worse; but with oil prices having dropped by two-thirds since July to a three-year low of below $47 a barrel, many think inflation is less of a worry and the economic downturn is dire enough to make the bank keep cutting.
One reason the two central banks may hold off from the more aggressive expectations is that they may wish to see what impact the recently-announced fiscal stimulus packages in Europe and Britain have during the crucial Christmas trading period.
Whatever the two banks decide this week, most economists think interest rates in both the euro-zone and Britain will fall further in early 2009, especially if credit markets remain tight and the economic newsflow continues to deteriorate as it has been in recent days.
The European Central Bank could well lower interest rates to as low as 1.5%, while the Bank of England could cut borrowing costs to 1% or even lower.