Euro Bank Set For Negative Interest Rates

By Ed Conway, Economics Editor

The European Central Bank is expected to become the first major central bank to introduce negative interest rates, as it seeks to fight off the threat of deflation.

The Frankfurt-based institution is widely-anticipated to cut the rate it pays on deposits from high street banks from the current rate of zero to around -0.1%, meaning it would charge them to keep money on deposit.

The move comes amid growing worries about the long-term economic health of the Eurozone.

Although many economists agree its financial system has now passed its crisis phase, there are concerns that it could be heading towards a lengthy period of deflation, marked by falling shop prices and wages.

ECB president Mario Draghi may consider Quantitative Easing

Inflation - the measure of annual price increases across the economy - was running at just 0.5% in May, well below the ECB's 2% target.

In previous speeches, the ECB's president, Mario Draghi, signalled that he would be prepared to take further measures to prevent it dropping down any more.

The ECB would not be the first central bank to experiment with negative interest rates - Sweden and Denmark have attempted similar schemes - but it would be by far the largest.

Other central banks, including the Federal Reserve and the Bank of England, have briefly contemplated such a measure, but have opted against them, for fear of damaging the financial system.

Economists said the argument in favour of negative rates would be to encourage banks to lend out cash to businesses and households rather than hoarding it at the central bank.

However, Marchel Alexandrovich of Jeffries added that negative rates alone may not be enough.

He said: "With the negative deposit rate so heavily discounted already, what may ultimately matter much more tomorrow is whether Draghi goes beyond what is generally expected and 'surprises' the markets.

"And in particular, whether he signals the ECB's readiness to do more and introduce full blown Quantitative Easing."

Thus far, Mr Draghi has stopped short of Bank of England style QE - buying up government bonds with created money - but he has dropped a number of hints in recent months that it might soon be on the menu.

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