Draghi Deflation Fight Seen on Different QE Path to Fed

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ECB prepared to go unconventional if necessary: Draghi
DOW JONES NEWSWIRES JULY 04, 2014 12:45AM

The European Central Bank is prepared to use "unconventional measures" should it appear likely that the euro zone's annual rate of inflation will remain low for longer than it had expected, its president said Thursday.

The ECB has resisted calls to engage in large-scale purchases of assets in capital markets, known as quantitative easing, as central banks in the US, UK and Japan have done. The International Monetary Fund has urged the ECB to consider following suit to keep inflation from staying too low for too long.

But speaking at a news conference after the governing council's decision to leave interest rates unchanged, Mario Draghi said all its members agreed to keep that option open.

"The governing council is unanimous in its commitment to also using unconventional measures under its mandate should it become necessary," he said.

Mr Draghi said the council would launch a program of quantitative easing if its forecasts for inflation over coming years were lowered.

"If our medium or long-term assessment of inflation were to change, we certainly would use this broad asset purchase program," he said.

Mr Draghi also said the council had agreed on the "modalities" for implementing a measure designed to raise bank lending to businesses that was announced in June.

In a surprise move, Mr Draghi said the governing council will from next year meet every six weeks, instead of the current four, and publish minutes of those gatherings.

But he said the governing council has yet to decide on the format in which the promised account of its deliberations will be published, and in particular whether the votes of individual members will be disclosed.

He also said the central bank is "intensifying" its preparations for buying Asset Backed Securities, another measure that would help stimulate bank lending, which has been in decline for over two years.

Mr Draghi repeated his pledge to keep the central bank's key interest rates low for "an extended period."

Critics of central-bank policy argue policy makers' actions risk fomenting a new crisis that could threaten economic recovery. The Bank for International Settlements, a forum for central bankers based in Switzerland and one such critic, on Sunday urged its members to raise interest rates to preserve financial stability.

US Federal Reserve Chairwoman Janet Yellen Wednesday told an audience at the International Monetary Fund in Washington she would prefer to rely on regulation and supervision to make the financial system more resilient to occasional bouts of turbulence, rather than monetary policy in the first instance.

Mr Draghi echoed those comments in his response to the BIS' call.

"We are...quite sensitive to the presence of potential financial stability risks," he said. "We are addressing these risks as we see them. The first line of defense should be the macro prudential tools. I don't think people would agree with raising interest rates now."

The 24-member rate-setting council kept its main lending rate at 0.15 per cent and a separate rate for emergency, overnight loans at 0.4 per cent. It maintained a minus 0.1 per cent rate on bank funds deposited with the central bank.

Thursday's inaction was widely anticipated, particularly after the ECB outlined a raft of measures a month ago aimed at shoring up the economy and reviving bank lending.

At its June 5 meeting, the ECB cut all of its main interest rates to record low levels. It installed, for the first time, a negative rate on bank deposits parked at the ECB, an unprecedented move for such a large central bank that effectively penalizes banks for parking surplus funds with the central bank rather than lending them to other financial institutions.

It also said it would offer, starting in September, four-year loans to banks on the condition that the credit finds its way to the private sector. The long maturity on the loans suggests the ECB will keep official rates super low for years to come and lag far behind the Federal Reserve and Bank of England in eventually raising rates.

Officials hope last month's moves will revive credit and economic growth in the currency bloc, while helping to push up inflation, which at 0.5 per cent is far below the ECB's target of just below 2 per cent. The measures helped boost equity markets and reduced government bond yields in the euro zone.

Yet doubts remain whether the ECB's easing steps will have much effect. The euro has gained ground recently, an indication that investors think the ECB is still being far less aggressive than other big central banks in stimulating the economy.

Lending to the private sector continues to shrink in the euro zone. Many analysts question whether the ECB can design a bank-lending program that will effectively steer money to households and small businesses, rather than be used by banks to borrow cheap funds from the central bank and use them to buy higher yielding government bonds. This practice, known as the carry trade, boosts bank profits but does little for the economy as a whole.

The euro zone recovery has lagged behind pickups in other economies where central banks have engaged in broad-based asset purchases. Unemployment remains near record highs in the euro bloc even though it has come down some in recent months. The region's recovery has been lackluster, with gross domestic product up just 1 per cent in the past year after a lengthy recession.

The US and UK have annual inflation rates near the 2 per cent level that major central banks view as optimal for their economies. Even in Japan--which was trapped in outright price declines, known as deflation, for two decades-- inflation has accelerated in recent months.
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