The European Central Bank cut its key interest rate by half a percentage point to 3.25 percent on Thursday and the Bank of England made an even more aggressive reduction of 1.5 percentage point in an effort to ease the financial crisis and boost their flagging economies.
The Bank of England’s cut to a 3 percent base rate — the biggest trim in 27 years — took markets by surprise, reflecting fears Britain is headed for a deep recession.
ECB president Jean-Claude Trichet said the central bank to the 15-country euro zone had discussed a bigger, three-quarter point rate cut but “after having checked and discussed the pros and cons of those different options, we decided unanimously that it was appropriate to decrease by 50 basis points,” or a half percentage point.
Trichet said the decision to lower its rate was made in light of inflation that, while still above its preferred level of at or about 2 percent, had shown signs of slackening.
“It has been steadily declining since July, falling ... to 3.2 percent in October from 3.6 percent in September and 3.8 in August,” he said, explaining the bank’s decision.
The ECB’s main mission is to keep inflation in check but cut its rates for the second time in less than a month in light of the financial crisis. Lower rates stimulate growth but can worsen inflation if done at the wrong time.
Trichet said the unanimous decision was made “amid the intensification and broadening of the financial market turmoil” that “is likely to dampen global and euro area demand for a rather protracted period of time.”
Others banks followed suit. The Swiss National Bank cut its key interest rate by half a percentage point to 2 percent, only its second reduction since March 2003. In Prague, the Czech Republic’s central bank cut its interest rate by three-quarter percentage point to 2.75 percent.
The BoE and ECB, which followed the Fed and other banks in a coordinated cut on Oct. 8, have been criticized in some quarters for being slow to respond to the sharp economic slowdown this year amid fears about inflation. The ECB actually raised rates a quarter-point in July as inflation spiked sharply higher.
The ECB decision drew plaudits from one analyst, although some investors were disappointed the bank did not join its British counterpart in a bigger cut.
“This decision comes at the right moment. It gives a positive signal to financial markets, which are slowly regaining confidence as clearly indicated by the falling short-term commercial lending rates,” said Gerhard Huemer, director for economic fiscal policy of the European craft and employers’ organization.
“Cutting interest rates before would not have helped over-dried and hyper-cautious markets — leaving rates untouched today, on the other hand, would have been the wrong signal to give to a debilitated economy.”
Those inflation concerns, though, have eased, not least because oil prices have fallen by more than half from their July highs of around $147 a barrel — and growth prospects have diminished sharply.
The European Commission forecast Monday that the economy in the 15 countries that use the euro will barely grow next year, expanding just 0.1 percent, with Germany, France and Italy stagnant. And it said Britain’s economy will slump by 1 percent next year.
Many analysts suspected the Bank of England might go for a bold move, given that British interest rates had been at a relatively higher level and mortgage lenders have been slow to pass on previous rate cuts in full to hard-pressed homeowners and consumers.
“With recent economic data so poor, the market was already expecting a big move from the MPC but a cut of this size shows we’ve entered uncharted territory,” said Royal London Asset Management economist Ian Kernohan. “Small cuts are not appropriate when the economy is slowing so fast and the MPC was right to be bold.”