ECB Cuts Rates by Record 75 Basis Points

The European Central Bank cut interest rates a record 75 basis points to 2.50 percent on Thursday and forecast the euro zone would stay in recession next year, but President Jean-Claude Trichet played down the risk of deflation.

ECB staff predicted inflation would fall below the bank's 2 percent ceiling in 2009.

But Trichet said a sharp drop in inflation would be only temporarily.

Thursday's rate cut was modest compared with a 100 basis point reduction made by the Bank of England and a stunning 175 cut by Sweden's central bank earlier in the day.

But Trichet noted that it was the ECB's third cut in little more than two months, meaning that euro zone interest rates were now 175 basis points lower than they were in the summer -- a scale of cuts rarely seen in continental Europe since World War Two.

"Inflation rates are expected to be in line with price stability over the policy-relevant horizon, supporting the purchasing power of incomes and savings," he told a news conference.

"The decline in inflation rates is due mainly to the fall in commodity prices and the significant slowdown in economic activity," he said.

Euro zone inflation plunged by 1.1 percentage points in November, the biggest drop since the euro zone was created 10 years ago, to 2.1 percent year-on-year.

This was only just above target as the ECB aims to keep inflation below, but close to, 2 percent.

"Largely related to the effects of the intensification and broadening of the financial turmoil, both global demand and euro area demand are likely to be dampened for a protracted period of time," he added.

Some economists have talked about the threat of deflation hitting the euro zone, where consumer prices fall across the board for a lengthy period, and can hit economies severely.

But Trichet played down these risks, stressing that falling inflation rates did not equate to deflation. The euro zone economy already fell into recession at mid-year.

Trichet revealed that new staff projections sharply revised down growth in the 15-nation region to 0.8-1.2 percent, for a midpoint of 1.0 percent, for the year as whole.

Video: Marc Ostwald from Monument Securities and Stuart Robertson from Aviva Investors discuss the rate cut.

But the new forecast for 2009 showed economic output would range from shrinkage of 1.0 percent to zero growth.

ECB staff put 2009 inflation in a 1.1-1.7 percent range, or a midpoint of 1.4 percent.

"The door is clearly open for them to move rates down further and that's what we ultimately think they'll do because the data is going to look increasingly bad in the near term.

They'll not be able to simply look through that, at this stage," said John Davies, a strategist at WestLB in London.

"They (ECB rates) are still above Sweden, the Bank of England ... (so) they are moving more cautiously," Davies said.

This month's ECB meeting is taking place in Brussels, one of the bank's two away-days from its Frankfurt home.

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