ECB Holds Rates and Cuts Growth Forecast

ECB European Central Bank
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The European Central Bank (ECB) left its interest and deposit rates unchanged on Thursday, even as it cut its 2013 growth forecast.

The bank held off on further rate cuts after a mild recovery in consumer sentiment and manufacturing data as well as a drop in inflation in the region.

Rates are already at a record low of 0.5 percent after May's 25-basis-point reduction.

The euro rose 0.2 percent to $1.3123 - close to a four-week high - after the rate decision.

Despite the improvement recent data, the ECB revised down its staff predictions for growth in the euro zone for this year.

(Read More: Negative Deposit Rates Could Boost Bank Profit: Constancio)

It estimated that gross domestic product (GDP) would contract 0.6 percent this year – compared to March's forecast of a contraction of 0.5 percent. But the bank raised its expectations for 2014 to 1.1 percent growth from 1.0 percent previously.

In the ECB's monthly press conference, President Mario Draghi said on Thursday that the euro zone's economy continued to face downside risks.

"They include the possibility of weaker-than-expected domestic and global demand and slow or insufficient implementation of structural reforms in euro area countries," he said.

"The accommodative stance of our monetary policy, together with the significant improvement in financial markets since mid-2012, should contribute to support prospects for an economic recovery later in the year."

Draghi reiterated his comments from May that the central bank was "technically ready" to introduce negative deposit rates.

(Read More: Asmussen Says ECB Will Stick to Expansive Policy)

"There are several unintended consequences and as well as with other measures at this present point in time, we see no reason to act on all these fronts," he said.

Unlike in May, the euro did not fall against the dollar following Draghi's comments on negative deposit rates, which Jane Foley, senior currency strategist at Rabobank, said showed that people remain unconvinced the measure will ever be introduced.

"This reflects a healthy skepticism regarding whether the ECB is truly willing to push further into the world of extraordinary easing methods; a view which has today been encouraged by Draghi's comment that the central bank doesn't see the need for non-standard methods at the moment."

The deposit rate is the rate paid by the ECB to banks, which deposit their cash at the central bank. A negative deposit rate would encourage banks to lend that money rather than park it with the ECB.

Jens Larsen, chief European economist at RBC Capital Markets, told CNBC that so much talk of negative deposit rates was surprising, given the other policy options open to the ECB. He added that an asset purchase program like that of the Bank of England might make more sense.

"That is to me the next obvious tool in the box. We keep talking about negative deposit rates – we can write long essays about the consequences of that. But why not use the most obvious tool to combat a rise in yields?" he said.

ECB officials appear to disagree over the move, with a number of council members making contradictory comments in the wake of May's meeting.

Governing Council Member Ewald Nowotny played down speculation, saying the markets over-interpreted Draghi's comments. But fellow ECB official Ignazio Visco said the central bank was "capable of taking it on board," and Vice President Vitor Constancio stressed that negative deposit rates could boost bank profitability.

Measures such as asset-backed securities (ABS) were also discussed as a possible way to boost lending to small and mid-sized enterprises (SMEs), Draghi added, but said this was "not for the short term."

The ECB's rate decision followed the Bank of England's decision to keep its benchmark rate unchanged at 0.5 percent.

(Read More: ECB's Visco: Deposit Rates Could Go Below Zero)

-- By CNBC's Katrina Bishop. Follow her on Twitter @KatrinaBishop