ECB Pauses in September, Sends Dovish Message

The ECB left the main refinancing rate unchanged at 1.5%. While this had been widely anticipated, the accompanying statement turned out to be more dovish than the market forecast. The central bank revised lower growth forecasts and did not signal upside risks to inflation. The tone appeared that the central bank is ready for a rate cut should the economy deteriorate further.

As stated in the post-meeting statement, the pace of economic growth 'decelerated' in 2Q11. Going forward, Eurozone's economy will continue to grow 'moderately, subject to particularly high uncertainty and intensified downside risks'. Factors that are dampening the underlying momentum in the region include 'a moderation in the pace of global growth, related declines in equity prices and in business confidence, and unfavorable effects resulting from ongoing tensions in a number of euro area sovereign debt markets'. The ECB pledged to maintain inflation rates below, but close to, 2% over the medium term.

The ECB revised lower the growth outlook. ECB staff forecast annual real GDP will grow 1.4-1.8% in 2011 and 0.4-2.2% in 2012. The projections were revised lower when compared with June's estimates. The risks to the economic outlook are tilted to the downside. Concerning inflation, policymakers believed near-term risks are 'broadly balanced'. While rises in commodity prices and increases in indirect taxes and administered prices might drive up prices, weaker than expected growth in the Eurozone and globally present some downside risks. Staff projections on inflation stayed unchanged at 2.5-2.7% for 2011 and 1.2- 2.2% for 2012.

The central bank left the policy rate unchanged at 1.5%. Regarding the monetary outlook, Preside Trichet said the committee 'never pre-committed' and stands ready to do 'whatever is necessary'. The ECB downplayed inflationary pressures and reduced growth forecasts. These signaled that interest rates will stay low for some time. Indeed, the central bank might ease monetary policy if the situation weakens further.