ECB Cuts Key Rate to Record Low of 1%

The European Central Bank cut its key interest rate to a record low of 1 percent today, and may offer banks longer-term loans to stem the region’s worst recession since World War II., Bloomberg 5/7/2009 8:21:30 AM

ECB President Jean-Claude Trichet, who has promised to unveil new policy measures to tackle the crisis, holds a press conference at 2:30 p.m.

The difficulty for Trichet is that his 22-member Governing Council is split over how best to proceed. Germany’s Axel Weber wants the ECB to signal that 1 percent is the floor for the key rate and has argued against buying government or corporate debt to boost the economy. Others such as Athanasios Orphanides of Cyprus say asset purchases and deeper rate cuts may be needed.

With recent economic reports in Europe suggesting the worst of the recession is over, Trichet may find common ground around the less aggressive approach put forward by Weber. The pace of decline in Europe’s service and manufacturing industries is easing and factory orders in Germany, the region’s largest economy, unexpectedly rose in March.

Arguing that asset purchases are not required, Weber is pushing for the ECB to extend the maturities on its loans to banks to ease tensions in money markets.

The measure may force colleagues to sign up to his second request -- a signal from the ECB that interest rates won’t drop any further. That’s because banks would be reluctant to take up long-term loans if they thought credit could get cheaper.

Council member Yves Mersch and Executive Board members Juergen Stark and Lorenzo Bini Smaghi have signaled support for Weber’s view. They’re squaring off against Orphanides, Nout Wellink and George Provopoulos, who want to preserve the option of further action. That has opened perhaps the biggest split among ECB policy makers in the bank’s 10-year history.

The 16-nation economy will shrink 4.2 percent this year, according to the International Monetary Fund, more than the projected 2.8 percent contraction in the U.S. and 4.1 percent slump in the U.K.

While some economic reports are pointing to stabilization, lending to companies and consumers dropped for a second straight month in March and a European Commission survey shows households expect prices to fall over the next 12 months.

Inflation was 0.6 percent in April. The ECB, which aims to keep the rate just below 2 percent, says it may dip below zero this summer.

ECB Cuts Key Rate to Record Low of 1%