ECB cuts forecasts as Draghi sees ongoing economic weakness

The European Central Bank cut its economic and inflation forecasts and President Mario Draghi said weakness will persist into next year, leaving the door ajar for further interest-rate cuts.

“Weak activity is expected to extend into next year,” Draghi said today at a press conference in Frankfurt after policy makers left the benchmark rate at a record low of 0.75 percent. “Later in 2013 economic activity should gradually recover as global demand strengthens and our accommodative monetary-policy stance and significantly improved financial market confidence work their way through to the economy.”

While Italian and Spanish bond yields have plummeted since Draghi promised to do whatever it takes to save the euro and unveiled an unlimited bond-purchase program, the 17-nation currency bloc fell back into recession in the third quarter. The ECB’s latest forecasts paint a picture of economic stagnation and inflation falling well below its 2 percent limit and the euro fell more than half a cent to $1.3031 as Draghi spoke.

The ECB chief said the ECB now forecasts the economy will shrink 0.5 percent this year, more than the 0.4 percent contraction it predicted in September. The ECB cut its 2013 forecast to a contraction of 0.3 percent from 0.5 percent growth, and projects expansion of 1 percent in 2014, he said, adding that risks to the outlook remain on the downside.

‘Undershooting Inflation’

The ECB cut its inflation forecast for 2013 to 1.6 percent from 1.9 percent. It predicted a rate of 1.4 percent for 2014.

“Projections of undershooting inflation should keep rate- cut speculation underpinned,” Christoph Rieger, head of fixed- income strategy at Commerzbank AG in Frankfurt, wrote in a client note.

Draghi also said that policy makers had a “wide discussion” on rates and Euribor futures contracts rose, signaling investors were adding to bets for lower borrowing costs. The implied yields on the contract expiring in December 2013 fell five basis points, or 0.05 percentage point, to 0.17 percent at 2:05 p.m. London time.

The Bank of England today left its key interest rate at 0.5 percent and refrained from expanding its asset-purchase program.

The ECB extended its policy of lending banks as much money as they request in refinancing operations through to at least July 9 next year.

At the same time, German inflation fears may make policy makers think twice about cutting rates again.

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