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December 4, 2009

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ECB holds on to low interest rate of 1%

THE European Central Bank left its main interest rate unchanged at a historic low of 1 percent yesterday and announced it would end some of its extraordinary measures supporting markets with liquidity.

ECB President Jean-Claude Trichet told reporters at a news conference that the euro zone economy is expected to grow at a moderate pace in 2010 and that "the current rates are appropriate."

However, he warned the "process will be uneven and subject to risks," noting balance sheet corrections in the financial and non-financial sector were still to come.

He said some of the ECB's extraordinary liquidity measures weren't needed anymore and they would be scaled back.

Gradual exit

Trichet confirmed that the upcoming 12-month money offering on December 16 would be the final one and that the 6-month offering would end in March.

"This is all about a gradual withdrawal of liquidity and the euro is likely to grind gradually higher as the bank is withdrawing its measures quicker than expected," said Neil MacKinnon, global strategist at VTB Capital.

The euro neared a 16-month high of US$1.5144 in the wake of Trichet's comments but failed to break through and drifted down toward US$1.5110.

The liquidity measures are important because despite the end of the recession, Europe's banks remain reluctant to lend to each other as well as to households and businesses.

Trichet has recently voiced worries that banks may be getting addicted to the central bank's cheap short-term loans - suggesting he favors a gradual withdrawal of the measures to help the financial sector increase lending again.

Trichet said the decision to leave rates unchanged was unanimous.

He said the financial crisis had cut the capacity of the economy and "will do so for some time."

He said banks needed to build up capital further to increase lending to the economy and that the ECB had "asked them to do their jobs; we've helped them considerably."

Trichet said Europe has a "very important stake" in having a strong dollar.

The weakness of the United States currency against the euro has hurt Europe's key export sector.


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