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ECB's Draghi Warns Of Growth Risks As IMF Sees Room For Rate Cuts

October 9, 2012 RTTnews
European Central Bank President Mario Draghi on Tuesday said the euro area economy faces more risks to growth and is expected recover only gradually.

Meanwhile, the International Monetary Fund said there is still scope for lowering interest rates after it slashed its growth forecast for the 17-nation economy.

"We expect weak economic activity in the near term and only a very gradual recovery after that," Draghi said during a hearing at the Committee on Economic and Monetary Affairs of the European Parliament in Brussels.

"The risks to this outlook are on the downside, mainly related to the tensions in several euro area financial markets."

Eurozone headline inflation is expected to fall to nearly 1.5 percent during 2013 and the risks from wages and profits are on the downside, the IMF said in its World Economic Outlook report released today.

"The probability of falling prices is unusually high, reaching almost 25 percent," the lender said.

"This projection gives the ECB ample justification for keeping policy rates very low or cutting them further," the IMF added.

The Washington-based lender expects euro area GDP to shrink 0.4 percent this year, which is worse than the 0.3 percent contraction projected earlier. GDP is expected to grow 0.2 percent in 2013, slower than the 0.7 percent expansion projected earlier.

The central bank stands ready to undertake, under appropriate conditions, its new government bond purchase scheme known as the outright monetary transactions (OMTs), Draghi said. Further, he reiterated that these provide a fully effective backstop to avoid 'destructive scenarios' in the euro area.

"OMT announcements have helped to support financial market confidence," he noted. "The ECB will conduct OMTs if and as long as countries comply with strict and effective conditions attached to an appropriate programme via the European Financial Stability Facility and the European Stability Mechanism."

Draghi said conditions would ensure that OMTs will not compensate for lack of fiscal consolidation and preserve the incentives for governments to continue with economic and fiscal adjustments.

The ECB will not simply print money to replace government action on the fiscal front, he said. The OMTs would be successful in moving an economy towards what we might call a 'good equilibrium' only if conditionality is fulfilled, he added.

"OMTs are ex-ante unlimited but,... they are not unconditional," the central banker said. "Exit from OMTs would take place once their objectives have been achieved or when there is a failure to comply with a programme."

Further, the ECB will only conduct transactions on secondary markets, buying from investors and not from governments, Draghi clarified. The central bank will buy government bonds with remaining maturities of between one and three years.

Warning that the Eurozone faces tough times ahead, Draghi said, "Some things improved over the last three months, but I think the road ahead of is still long, and uphill." Further, he said the crisis of confidence which gripped the euro area in the last few months has improved, but its still there.

Exuding confidence as the euro area finance ministers meet in Luxembourg, Draghi said, "I trust that in October and subsequently in December, the Heads of State or Government will reaffirm their commitment to the irreversibility of the euro by agreeing on a long-term vision for our economic and monetary union."

Regarding the troubled euro member Greece, Draghi said, "It's quite clear that the progress at the level of undertaking of the policy reform has been perceptible and significant, but I also think that more needs to be done."

His comments came as the troika, which includes the European Commission, the ECB and the IMF, is preparing a report on the progress made by the Greek government in meeting its fiscal targets. Meanwhile, German Chancellor is visiting Athens today amid mass protests.

The IMF today warned that unless recent European Central Bank's actions are followed up with more proactive policies by others, the current forecast and the baseline scenario may once again prove overly optimistic and the euro area could slide into the 'weak policies scenario', with deleterious consequences for the rest of the world.