European Central Bank keeps interest rate at 1%

LUXEMBOURG: The European Central Bank left its benchmark interest rate unchanged at 1 percent Thursday, preferring to wait and see if its "spectacular" infusion of credit into the banking system will loosen lending to consumers and businesses in the euro zone's struggling economy.

Bank President Jean-Claude Trichet said the ECB was pleased by the demand for its record euro442 billion ($623 billion) in 12-month credits to banks last week, but wouldn't comment about what more it might do.

The new loan program comes on top of cutting the bank's main interest rate from 4.25 percent to 1 percent since October.

The ECB sets interest rates for the 16 countries that use the euro, a bloc of some 320 million people that accounts for nearly 17 percent of the world's economic output.

"We were happy with the result of this liquidity supply. It is of course emblematic of what we've been doing in enhanced credit support," Trichet said.

Trichet said the move should further strengthen banks' access to cash and, help normalize money markets and extend more credit.

Yet he also urged banks to do their part by passing the money onward to business and consumers.

"We trust what we have been doing in the non-conventional measures we have taken and which have been very spectacular," he told reporters.

"It also justifies our call to commercial banks in general to be up to their responsibilities - mainly to ship to the real economy the extraordinary measures we have been doing."

The ECB also unveiled details of its previously announced euro60 billion covered bond purchase program which it hopes will also support more lending between banks.

Covered bonds are a relatively safe type of asset-backed security.

In a statement after the press conference Thursday, the ECB said it hoped to initiate the program gradually, beginning Monday, in a bid to spark more lending by banks and make it easier to get credit.

The ECB said bonds on the primary and secondary market - both new issues and previously owned - could be purchased but they will have be denominated in euros, having a minimum double-A rating and minimum issue size of euro500 million.

The decision on the bond purchase program will last through June 30, 2010.

On the state of the euro zone economy, Trichet said recent economic data indicated growth could remain weak for the rest of this year, but should decline less strongly than in the first quarter of 2009.

He said after a phase of stabilization, a gradual recovery with positive quarterly growth rates is expected by mid-2010.

Trichet said the ECB's rate of 1 percent - its lowest ever - was "appropriate" but reiterated that the current level was not the lowest the bank could go if deemed necessary.

"The current rates remain appropriate taking into account all the information and analysis that has become available" since it met last month, he said, adding that the "fall of annual inflation rates into negative territory in June is in line with previous expectations and reflects temporary effects."

Analysts said they thought the meeting turned out to be more interesting than they had expected, but see the ECB holding interest rates steady in the coming months.

"Just as economic activity begins to stabilize and financial market tensions abate, the ECB seems to become increasingly concerned about the risk of a credit crunch," Marco Annunziata, an economist at UniCredit wrote in a research note.

"Together with its cautious view of the recovery prospects, this supports my view that interest rates will remain on hold well into next year," Annunziata said.

Elsewhere in Europe, the Swedish central bank cut its own key interest rate by a quarter of a percentage point to 0.25 percent, saying the economic downturn there appears to be deeper than previously forecast.

The Riksbank also said that low official interest rates might not be enough to make financial markets recover and decided to issue loans of 100 billion kronor ($13.1 billion) to banks.

Also on Thursday, Iceland's central bank left official interest rates unchanged at 12 percent.

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