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WRAPUP 2-Case for ECB rate cut builds as econ outlook sours

Published 02/12/2009, 04:23 PM
CHTR
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* ECB's Liikanen, Bini Smaghi say rates could move in March

* Experts slash forecasts for growth, inflation

* ECB says global recession could explain high forex volatility

* Papademos: unconventional steps not linked to rate level (Adds quotes, background, details)

By John Acher and Krista Hughes

HELSINKI/FRANKFURT, Feb 12 (Reuters) - More European Central Bank members on Thursday added their voices to those flagging a March interest rate cut against a backdrop of rapidly-diminishing expectations for the economy and inflation.

Executive Board member Lorenzo Bini Smaghi and Governing Council member Erkki Liikanen joined the chorus of policymakers hinting the ECB will cut rates to a record low next month.

"They (rates) could still fall, it depends on inflation," Bini Smaghi told Italian state television RAI.

Asked whether this could happen at the bank's next meeting in March, he said: "There is this possibility. We'll see what the council decides. There is a possibility of going in this direction."

The latest round of news on the economy suggested inflation, which the ECB aims to keep at just under 2 percent, will speed the need for action from the ECB.

A survey of experts published by the central bank showed inflation was likely to average less than 1 percent this year while the economy would shrink by 1.7 percent, and recover only sluggishly in 2010, despite four ECB rate cuts since October and extra government spending. For more see [ID:nFAE002842].

Liikanen, who heads the Finnish central bank, said the economic outlook was exceptional, with very weak growth and balanced risks to inflation.

"Inflationary development and the markets' inflation expectations are now in line with our price stability objectives," he said in an interview with Finnish online business newspaper Taloussanomat and news agency Startel.

"That gives us room to continue taking measures, and at the next meeting it is possible that we could move."

Fellow policymakers including Guy Quaden, Miguel Angel Fernandez Ordonez, Lucas Papademos and Gertrude Tumpel-Gugerell have also pointed to further ECB easing, cementing market expectations that the central bank will cut rates by 50 basis points to a record low of 1.5 percent in March.

The survey of forecasters, published in the ECB's latest bulletin, showed some forecasters did not expect growth to recover until late 2010.

In his first-ever public speech in German, ECB President Jean-Claude Trichet was slightly more optimistic, saying the euro zone economy was expected to regain momentum in 2010. But he warned forecasts were currently clouded by huge uncertainty. [ID:nLC532954]

Executive Board member Juergen Stark said that euro zone inflation could fall close to zero mid-year from 1.1 percent in January, a point also made by Papademos, although both dismissed the chance of a spiral of deflation.

EXPAND TOOLKIT?

In its February bulletin, the ECB said the global recession might explain unprecedented volatility on foreign exchange markets -- unusual statements from the ECB, which rarely comments on currencies. [ID:FAT004579]

As the economy falters, speculation is also increasing that the ECB may expand its monetary toolbox, possibly through asset purchases, to boost growth while keeping rates relatively high compared to other central banks.

Executive Board member Jose Manuel Gonzalez-Paramo said the bank could apply quantitative easing but unconventional policy tactics would be unknown territory and could pose problems.

"We know very little about what volumes would be necessary in order to obtain our objectives, we know very little about measuring their effect, we know very little about what would be the operating objectives of a monetary policy based on buying assets and we do know that the exit strategy is very difficult," he said at an event in Barcelona. [ID:nLB19225]

Papademos said late on Wednesday that any unconventional policy steps to further unblock impaired financial markets would be taken independently of monetary policy, in a pragmatic manner and on a case-by-case basis.

"I do not see a dependence, or necessary sequence, between the level or path of policy rates and the possible adoption of 'non-standard' measures aimed at improving the functioning of markets and preserving the stability of the banking system," he told a dinner in London. [ID:nN11606730]

The ECB has been lending unlimited funds at fixed interest rates to commercial banks in the past few months, but has stopped short of following other central banks such as the U.S. Federal Reserve and the Bank of England into directly buying assets such as corporate or government bonds.

Tumpel-Gugerell said the ECB had already taken steps to extend extra liquidity to markets but was considering how to take this forward.

Liikanen said fiscal responsibility lies at the national level and the ECB could not directly finance governments -- an argument against buying government bonds.

"Ultimately, the management of public finances is a national matter in the monetary union," he said. "According to our charter, the central bank cannot directly fund governments." (Additional reporting by Boris Groendahl in Vienna, Jason Webb in Barcelona, Sakari Suoninen in Osnabrueck, Jeremy Gaunt in London and Marc Jones in Frankfurt; Writing by Krista Hughes and Marc Jones; Editing by James Dalgleish)

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