European Central Bank set to speak but not act yet

Giant Euro sign outside European Central Bank headquarters in Frankfurt The European Central Bank looks set to ring in the New Year with interest rates on hold, but will have its work cut out for it in 2014, analysts say. The ECB's policy-setting governing council is scheduled to hold its first meeting of this year on Thursday, but central bank watchers are not projecting any new measures just yet after a surprise rate cut in November.
"The ECB's governing council appears unlikely to make any substantive policy changes at its first policy meeting of the year," said Jonathan Loynes at Capital Economics.
"But the ongoing combination of weak economic growth, a damagingly strong currency and poor liquidity conditions will maintain the pressure on the central bank to take further action to support the region's fragile economic recovery in 2014," he said.
The ECB took markets by surprise in November and pared back its central "refi" refinancing rate by a quarter of a percentage point to a record low of 0.25 percent.
The reason behind the move was an expectation that the single currency area is facing a prolonged period of very low inflation.
Area-wide inflation picked up fractionally in November, but analysts believe that does not sound the all-clear and the ECB may have to take further action again at some point.
There is "no immediate need to act," said Commerzbank economist Michael Schubert.
"ECB council members signalled in recent weeks that they currently see no need for further measures," the expert said.
"Against this backdrop we expect that at ECB President Mario Draghi will merely emphasise once again that the ECB is ready to act," Schubert suggested.
In addition to changing interest rates, the ECB could pump more liquidity into the financial system to get credit flowing again between banks and businesses, crucial if any economic upturn is to be sustained.
For the moment, loans to businesses in the euro area are continuing to decline, new ECB data showed on Friday.
Private sector loans dropped by 2.3 percent in November in a year-on-year comparison, after already contracting by 2.2 percent in October, the ECB calculated.
The ECB already pumped more than 1.0 trillion euros ($1.3 trillion) into the banking system at the end of 2011 and the beginning of 2012 to avert a potentially disastrous credit crunch.
But the banks preferred to use the ultra-cheap cash to buy up sovereign bonds rather than lend it on to businesses and the ECB is considering ways of channelling the cash directly to businesses if it decides to open the liquidity gates once again.
"The governing council obviously agrees that with possible further steps the ECB wants to provide targeted support to the real economy. But there seem to be differences of opinion as to what is the most effective way to reach this target," said Loynes at Capital Economics.
Berenberg Bank's Schmieding said the weak credit data did suggest a possible credit crunch.
However, "companies are -- on aggregate –- in such a comfortable financial position that they can reduce their bank loans and increase their cash reserves at the same time. On aggregate, companies do not need credit at the moment," Schmieding suggested.
"The data on money and credit show that eurozone companies have the financial strength to increase their investment. The question is whether they will do so."
Confidence in the future was key to investment and in the wake of the post-Lehman turbulences and the euro crisis, companies are more reluctant to invest than before, the expert argued.
However, rising business confidence in the eurozone "does suggest that business investment will pick up over the course of 2014. In Germany, this started in the spring of 2013 already. We expect more and more companies elsewhere to follow suit soon," Schmieding said.
Source: AFP