ECB cuts interest rates as second recession looms

Surprise shift in policy comes as companies count cost of Europe's economic woes

The chill spreading throughout the European economy could trigger another recession by the end of the year, the new head of the European Central Bank warned as he announced a cut in interest rates yesterday.

Mario Draghi, who took over from Jean-Claude Trichet as Europe's top monetary policymaker on Tuesday, said the ECB Council was unanimous in its surprise decision to cut its benchmark rate from 1.5 to 1.25 per cent.

The move was an acknowledgement of the gravity of the crisis engulfing the euro area, which is faced with slow growth and an increasingly violent sovereign debt storm. It also marks an about turn for the ECB, which earlier this year became the first major central bank to start raising interest rates after they were slashed in response to the financial crisis three years ago.

"What we are observing now is... slow growth heading towards a mild recession by year-end," Mr Draghi said, warning that downgrades to "forecasts and projections for average real GDP growth in 2012 [are] very likely."

He offered reassurance on inflation, saying that, although it is likely to stay above the ECB's 2 per cent target for "some months to come", it was "expected to decline further in the course of 2012 to below 2 per cent". He did not, however, signal any expansion in the ECB's programme of buying sovereign bonds to ease the pressure on troubled economies such as Italy.

Shortly before he spoke, the impact of the crisis was highlighted by news of slumping profits and slowing sales at larger firms from across and beyond the euro area. The French bank BNP Paribas reported a 72 per cent fall in quarterly net profits after it recorded a bigger-than-expected writedown on Greek debt and slashed its exposure to other sovereign debt. In Amsterdam, its rival ING announced plans to cut 2,700 jobs in its Dutch retail arm, with its chief executive Jan Hommen warning: "Income is coming under pressure in the current environment."

The insurer Aviva was also counting the cost of the weakness in the continental economy yesterday, saying that its life insurance sales had declined in the first nine months of the year, partly owing to conditions in Europe. "Some of the short-term headwinds in those markets are very real," its chief executive, Andrew Moss, said.

There were also concerns about banks rushing to cut their exposure to eurozone debt afte both BNP and ING said they had reduced their holdings. "The market value of the debt of the countries most under scrutiny is likely to decline further as banks unload sovereign bonds," Charles Dallara, the managing director of the Institute of International Finance, said earlier in the week.

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