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MW: European Central Bank holds firm
 
All eyes on Trichet for signs of softer tone on inflation

LONDON (MarketWatch) - There was no October surprise from the European Central Bank Thursday as its Governing Council voted to leave its key lending rate unchanged at 4.25% despite a rapidly deteriorating economic outlook and rising turmoil in the European banking sector.

Surveys showed economists overwhelmingly expected the ECB to hold its fire, although credit markets had shown a minority expecting a rate move ahead of the meeting.
Attention now turns to ECB President Jean-Claude Trichet's monthly news conference at 8:30 a.m. Eastern, where the 15-nation euro-zone's top central banker is expected by many economists to highlight downside risks to the economy and potentially signal that the next move in official interest rates will be down.
The euro was little changed against the dollar following the announcement, trading at $1.3893, down 0.8% on the day. The single currency sank to a one-year low against the dollar earlier in the session, partly due to ideas the ECB will soon move to signal the next move in rates will be down. See Currencies.
European stocks remained higher but trimmed gains slightly. See Europe Markets.
Soren Dijohn, senior analyst at Danske Bank in Copenhagen, said a move on Thursday would have been at odds with the signal sent by the central bank's July rate hike.
That move was designed to warn wage- and price-setters that it wouldn't allow the commodity-led surge in food and energy prices become embedded in the economy through "second-round effects."
Dijohn said Trichet is most likely to repeat that the ECB has "no bias" on future interest rate moves.


The ECB has long preferred to offer coded but well-known signals of future rate moves, another factor that made a Thursday cut unlikely, economists said.
Holger Schmieding and Gilles Moec, economists at Bank of America, said in a research note that Trichet may signal that the next move in rates is down. He likely won't signal that a cut is imminent, however.
Trichet's news conferences are closely scoured for hints and frequently-used keywords to future policy moves. The ECB chief on Thursday could explicitly mention the "rate-cut option" while repeating that the governing council has "no bias" on future rate moves, they wrote.
That would help pave the way for a quarter-point cuts in February and April, Moec and Schmieding said, or earlier if there's no improvement in financial markets soon.
Not all economists expect Trichet to change his tune. With inflation still running well above the ECB's 2% annual target, policy makers might maintain a hard line amid fears price pressures will feed through to the wage-setting process.
The demand by influential German trade union, IG Metall, for an 8% wage rise is likely to reinforce the Governing Council's worries about such "second-round effects," said Marcel Theliant, an economist at Credit Suisse in Zurich, who expects the ECB to begin cutting rates next year.
Meanwhile, the euro-zone's deteriorating growth outlook was underscored Wednesday, when the Markit euro-zone manufacturing PMI fell to 45.0 in September, its lowest level since December 2001, signaling an accelerating contraction of manufacturing activity across the 15-nation region. See full story.
A comparable rate of decline hasn't been seen since the Sept. 11, 2001 terror attacks and indicates the manufacturing sector is leading the euro zone into recession, said Chris Williamson, chief economist at Markit, noting that it's likely that the full impact of the worsening financial crisis has yet to be felt.
Other confidence gauges have also deteriorated. Germany's Ifo business-climate index collapsed to recession levels in September, economists said, while unemployment across the euro zone is on the rise. And Ireland last week became the first euro-zone nation to meet a widely-used definition of recession, posting a second consecutive quarterly decline in gross domestic product.
Source