The European Central Bank (ECB) cut its deposit rate in September by a 10 basis points to -0.5% from -.04%. It plans to keep interest rates at this level or lower until its inflation outlook "converge[s] to a level sufficiently close to but below 2% within its projection horizon, and such convergence has been persistent." The ECB also changed its TLTRO (targeted long-term refinancing operations) rate to create a more favorable environment for bank lending.
In order to make sure that banks do not experience greater pressure on their balance sheets from the negative interest rates, the ECB also unveiled a new two-tier rate system on bank reserves. Part of banks' excess liquidity holdings will be exempt from the negative rate so that their profits are not squeezed out as much. According to Artur Balyszynksi, head of research at Henderson Rowe, the ECB's rate cut is "essentially a tax on euro zone banks, and for the already weakened bank-financed economy like the euro zone, this move could spell more trouble." Negative rates essentially penalize banks for holding cash rather than lending it out.
The rate cut is not a complete surprise because the markets have been expecting a stimulus package it was just a question of the underlying details. The ECB was forced to inject some sort of stimulus into the economy in order to avoid a recession given the slowing euro zone economy, low inflation rates, and the U.S. - China trade war. The last time that the ECB unveiled quantitative easing (QE) was around four years ago during the euro zone sovereign debt crisis.
As part of the QE stimulus plan, the ECB said that it will start printing money again and buy back €20 billion ($22 billion) in bonds and other financial assets starting in November. Bond buy - back drives down yields (and increases prices), reducing the cost of borrowing for governments and companies.
After Mario Draghi, President of the ECB, delivered the news of the rate cut and QE stimulus plan, the European Stoxx 600 index increased 0.6% with market reacting positively. The euro zone bond yield fell and the euro currency weakened.
- https://www.cnn.com/2019/09/12/investing/ecb-interest-rate/index.html
- https://www.economist.com/finance-and-economics/2019/09/12/the-ecb-cuts-interest-rates-and-restarts-quantitative-easing
- https://www.theguardian.com/business/2019/sep/19/interest-rate-cut-bank-of-england-brexit-uncertainty-trade-war
- https://www.cnbc.com/2019/09/12/european-central-bank-launches-new-bond-buying-program.html
