Interest rates could stay lower for longer in Europe

FRANKFURT, Germany — Multiple threats stalking Europe’s economy mean the European Central Bank could keep interest rates at rock-bottom levels longer than expected, extending skimpy returns for savers — but supporting indebted companies and governments with low borrowing costs.

Speculation about a possible longer path to the first rate increases in Europe since 2011 has grown ahead of the European Central Bank’s meeting on Thursday. The renewed focus also comes after U.S. Federal Reserve chairman Jay Powell suggested the Fed might not hike its own rates as fast as expected either.

The reason for the doubts in Europe: the economic upswing has slowed and faces worrisome hurdles in the months ahead.

Those include a possible chaotic exit by Britain from the European Union without a trade deal, which could disrupt industrial supply chains and production. Another is the U.S.-China trade dispute, which could sideswipe Europe because its companies trade with both. And there’s the lingering threat of U.S. President Donald Trump imposing auto tariffs if U.S.-EU trade talks don’t reach a deal.

As a result, investors are not expecting a rate increase until mid- or late 2020, judging by money-market indicators. That’s well beyond the earliest first date set out by the ECB, which says rates will stay where they are at least “through the summer” of 2019.

Several analysts, however, are sticking with late this year for the first increase, although they say the risk is that it will take longer. They say ECB will likely leave its policy statement and interest rates unchanged Thursday.

The ECB, the monetary authority for the 19 countries that use the euro, and Britain’s Bank of England are slowly joining the U.S. Federal Reserve in stopping and then withdrawing massive stimulus deployed to overcome the aftereffects of the 2007-2009 global financial crisis and the Great Recession. At the end of last year, the ECB halted its nearly four-year stimulus program, in which it bought about 2.6 trillion euros ($3 trillion) in bonds with newly printed money, and turned its attention to when it might start raising rates.

The ECB is behind the Fed, which has raised its key rate, expressed as a range, from 0-.25 percent to between 2.25 and 2.50 percent and has indicated two more rate hikes this year. Markets are skeptical that the Fed will carry through after Powell said there was “no preset path to our policy.”

Low rates stimulate economic activity and tend inflation, and have boosted the prices of assets such as stocks, bonds and real estate. Savers have seen returns on bank deposits fall to zero but may have benefited from the stronger job market thanks to the stimulus. Cheap rates have also taken some of the heat off indebted governments such as Italy, which have seen the costs of financing their debt piles fall.

High rates on the other hand, are used to keep growing economies from overheating with too much inflation. That is why the Fed and the ECB are moving carefully in withdrawing stimulus. Their challenge is to move monetary policy settings to those more in line with a normally functioning economy — without setting off market turmoil that could hurt business confidence and disrupt the recovery.

Analyst Reinhard Cluse predicts a first ECB rate hike in December but cautions that “in light of the current weakness, we think the forecast risk is tilted towards a later and slower normalization of rates.”

He expects a first increase of 0.2 percentage point in the deposit rate, currently the ECB’s benchmark for steering the economy.

The deposit rate is currently at negative 0.4 percent, meaning banks pay a penalty for leaving excess funds overnight at the ECB. The negative rate is aimed at pushing them to lend the funds to support economic activity instead.

Despite the external threats from possible disruptions to trade, the economy is in fact not in bad shape by many measures. That may account for different views among analysts and investors. The eurozone grew 0.2 percent in the third quarter, the 22nd straight quarter of expansion, still younger than the average of 31 quarters since 1975 and suggesting it might have a while to run. Unemployment fell to 7.9 percent in November, the lowest since October 2008.

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Source from: Washington Post