ECB Pauses to Observe Results of Recent Stimulus Measures

Rates on Hold, as Policy Makers Set to Buy Bonds and Asset-Backed Securities to Help Economy

The Wall Street Journal

By BRIAN BLACKSTONE CONNECT

Updated Oct. 2, 2014 1:41 p.m. ET

NAPLES, Italy—The European Central Bank took no new action on Thursday, despite inflation weakening to a five-year low, signaling it will wait to see if stimulus measures undertaken in recent months lift the eurozone’s weak economy.

ECB President Mario Draghi, however, emphasized the central bank is still focused on providing stimulus. The bank’s news conference on Thursday was held in the historic Italian coastal city of Naples, where hundreds of demonstrators turned out to protest against the ECB and government austerity measures in Europe.

“We did a lot of things since June, unprecedented things,” Mr. Draghi said, noting that their effect of stimulus on the economy has yet to be fully felt. Among the moves, the ECB lowered the interest rate on bank deposits parked at the ECB to negative territory, a first for this central bank, and added new lending and private-asset purchase programs.

European stocks fell Thursday after the ECB disappointed some investors who had hoped for stronger hints that eurozone monetary authorities were moving toward more aggressive action.

The central bank, as previously signaled, said it would in about two weeks begin buying covered bonds, collateralized bank bonds that carry extra protections. It will also this quarter start buying bundled bank loans known as asset-backed securities. The aim of the new purchase programs, as well as a four-year loan facility to banks at ultralow rates, is to bolster the money supply and convince financial markets and the public that inflation will get back to the ECB’s goal of just under 2%, despite being at a five-year low of 0.3% last month.

For the program to cover all 18 eurozone countries, ABS and covered bonds from Greece and Cyprus may be purchased as long as they meet extra risk provisions and those countries remain in international aid programs with economic and budgetary surveillance.

German politicians from both the country’s ruling coalition and opposition immediately responded with sharp criticism of the bond-purchase plans, saying the ECB is taking on too much risk and leaving taxpayers vulnerable to footing the bill.

The timing of the latest stimulus measures, kicking in now, has set the ECB apart from central banks in the U.S. and U.K., which are weighing when to start raising interest rates. The ECB’s measures underscore the increasing differences in the monetary policy cycles of advanced economies, Mr. Draghi said. This divergence has led to a sharp weakening in the euro’s exchange rate in recent months, particularly against the U.S. dollar.

Mr. Draghi declined to say whether he thought the euro’s weakness would continue, saying the exchange rate isn’t a policy target but is nonetheless important for growth and inflation. A weaker exchange rate tends to increase the inflation rate and bolster exports.

Some analysts said Mr. Draghi didn’t make a convincing case that the ECB is going to act aggressively to boost the economy. He didn’t set a firm target for the ECB’s holdings of assets and loans, though recent comments suggested he’d like to see them rise by at least EUR700 billion. He left unclear the amount of ABS and covered bonds the ECB would buy.

“There was a bit of backtracking all around,” said Ken Wattret, economist at BNP Paribas.

The eurozone has for years been among the weakest of the world’s major economies, weighed down by the aftereffects of the global financial crisis that were intensified by the region’s subsequent debt crisis that forced Spain, Italy, Greece and others to enact growth-draining austerity measures.

The ECB on Thursday left its main refinancing rate, that which it charges for its regular loans to banks, at 0.05%, a historical low it set at its previous meeting in September. The interest rate on overnight bank deposits held at the ECB was kept at -0.2%. Mr. Draghi signaled after last month’s cuts that the central bank had reached the bottom on interest rates.

Yet recent data have financial markets clamoring for the ECB to do more, amid mounting doubts about whether its moves to date will be enough to significantly increase its balance sheet.

To do that, the ECB may need to consider purchasing large swaths of government bonds, an operation known as quantitative easing. Such a policy has been used extensively by central banks in the U.S., U.K. and Japan to reduce long-term interest rates and stimulate borrowing and spending in the economy.

Mr. Draghi signaled that remains an option in Europe, saying the ECB’s 24-member governing council was unanimous in its willingness to take additional unconventional measures if needed to spur growth.

Yet it is unclear whether stepped-up ECB measures would do much good in countries such as Italy and France that have deep-rooted problems. Mr. Draghi urged France to implement reforms that have long been discussed.

Italy’s economy has posted no inflation-adjusted growth since 2000 and business investment remains weak despite a sharp drop in bond yields the last two years.

Italians took to Naples’ streets to protest European policies that critics say exacerbated the region’s problems by raising taxes and cutting spending during recessions. Italian riot police used water cannon to block protesters who tried breaking the security cordon to head toward the ECB meeting in Capodimonte Park. Naples police estimated the number of protesters at just over 1,000, and said few of them were violent.

Responding to a question about the protests, Mr. Draghi said, “I find this description of the ECB as a guilty actor in need of being corrected,” noting that the bank has taken significant measures to resolve the bloc’s crises.

Mr. Draghi said he understood why some people may be growing skeptical about the euro. In countries, such as Italy with high unemployment, people don’t see the benefits, he noted. In other, stronger countries, there is a feeling that taxpayers are being asked to subsidize other countries.

But he had a message for those who think their countries would be better off without the shared currency: “The euro is irreversible.”

—Todd Buell, Paul Hannon and Andrea Thomas contributed to this article.

Write to Todd Buell at todd.buell@wsj.com and Paul Hannon at paul.hannon@wsj.com