---- by Steve Whitehouse ----
PARIS (AFX) - The European Central Bank governing council will leave leading interest rates unchanged when it meets today, despite declining inflation and sluggish growth, economists said. But the ECB has not finished easing monetary policy and further rate cuts are likely in the new year, they said. The ECB cut rates by 50 basis points on Nov 8, the last time the council met to consider monetary policy, taking the minimum bid rate on the bank's main refinancing operations to 3.25 pct. The move came after a 50 basis point cut in the aftermath of the Sept 11 terrorist attacks on the US, and 25 basis point easing moves in May and August.
This week's meeting comes too soon after the November move for the ECB to contemplate another cut, particularly given its view that interest rates cannot be used to finetune the economy, economists said.
"After the 50 basis point cut of Nov 8, we think that the ECB is going to wait quite a long time before pursuing the rate cut cycle," said Marie-Pierre Ripert of Caisse des Depots.
"We think it will wait until it has more information on the slowdown in euro zone growth in the fourth quarter and confirmation that the decline in inflation is going to last, particularly by looking at oil prices over the next few months," she said.
In a poll of economists by AFX News and Agence France-Presse last week, 32 of the 34 economists said they expect the ECB to keep rates unchanged at today's meeting.
There have been no signals from ECB council members that a rate cut is being considered at this stage, and Luxembourg central bank governor Yves Mersch last week said that the ECB should wait for this year's rate cuts to take effect "without forcing the pace".
Some economists said that a rate cut this week cannot be completely ruled out, even if they are not forecasting such a move. Stephan Rieke of BHF Bank said the ECB is more pessimistic about euro zone growth than it was a couple of months ago, and it could therefore cut now. "It doesn't help to wait and wait. If your diagnosis is as bad as it is, you have to act significantly," he said. "It would be clever (to cut rates now). It would surprise the markets." "It's a sly old fox, the ECB. One thing you've got to remember about them is that they tend to like to wrongfoot the market," said David Brown of Bear Stearns.
But Brown said the ECB will probably want to wait until after the introduction of euro notes and coins before cutting rates again. The governing council now only considers interest rates decisions at its first meeting in every month, with the second meeting of the month being devoted to more routine matters, so after this week the next meeting at which interest rates will be on the agenda takes place on Jan 3. This is likely to be dominated by issues related to the cash changeover, which may make the ECB reluctant to cut rates on that occasion, economists said.
The most likely timing for the next rate move is therefore the Feb 7 meeting in Maastricht, according to many economists. Of the 34 economists surveyed by AFX and AFP, 13 forecast a February easing move, nine predicted that the ECB will cut in January, five said rates will be cut at some unspecified time in the first quarter and two forecast a rate cut in either January or February. The key to the timing of rate cuts probably lies in the inflation numbers, which have declined sharply in recent months. Euro zone inflation slowed to 2.1 pct in November from 2.4 pct in October and a May peak of 3.4 pct. Inflation is therefore likely to fall below the ECB's 2 pct price stability ceiling early in 2002, as forecast by the ECB, and this could unlock the next rate cut, economists said. "The inflation outlook is so benign as to allow the ECB to keep on cutting rates," said Alberto Baltanas Nunez of BSCH. The ECB has virtually said as much, with Bank of France governor Jean-Claude Trichet recently noting: "When inflationary pressure comes down and, in our opinion, the aim of price stability is safe, the ECB can cut rates." The deceleration in inflation will also allow the council to focus on its secondary task of supporting euro zone growth. Euro zone GDP grew only 0.1 pct quarter-on-quarter in both the second and third quarters and is expected to contract in the fourth quarter and possibly the first quarter of 2002, which will mean that the euro zone will be in recession for the first time since the start of monetary union. Growth is likely to remain sluggish throughout the first half of next year and this would make further monetary easing necessary, economists said. "Once inflation is safely below 2 pct -- probably in the early months of next year -- the ECB will be able to focus more on growth prospects. If, as we expect, growth remains sluggish early next year, they will find themselves compelled to trim rates again," said Jose Luis Alzola of Salomon Smith Barney. The course of the euro on the foreign exchange market may also have an influence on rate decisions, he said. A stronger euro would help contain inflationary pressures and therefore increase scope for rate cuts. "We are assuming that the euro will strengthen moderately next year -- towards 0.96 usd in the second half -- but significant and sustained deviations from that path on either direction could alter monetary policy," said Alzola. And while there is a broad consensus that the ECB will cut rates again in the early part of next year, there is considerable divergence among economists about the course of interest rates after that. By the middle of next year, most economists expect the refi rate to be below its current level, with 15 of the 34 forecasting a rate of 2.75 pct, nine predicting a 2.50 pct level and five a 3.00 pct figure. One predicted that the refi will be at 2.00 pct. Three forecast that the ECB is already at the bottom of the rate-cutting cycle and said they expect the refi rate to still be at its 3.25 pct current level in the middle of 2002. In the second half of next year, many economists expect the ECB to tighten policy as the recovery picks up steam. "In the second half of 2002, when the economy is expected to be showing a clear recovery, we anticipate a first small step 'back to normal'," said Nico Klene of ABN Amro. "They will be quicker in hiking rates than they have been in easing rates," said Ditmer de Vries of Rabobank, who said the ECB is a conservative central bank which is still building its inflation fighting credentials. But others expect rates to remain low throughout the year, predicting that growth will remain under pressure for longer than the ECB expects. Forecasts for the refi rate at the end of 2002 consequently cover a broad range -- from a low of 2.00 pct to a high of 4.25 pct.