ECB cuts rates to ward off deflation

ECB President Mario Draghi is hoping Thursday's rate cut will help prevent the eurozone sinking into stagnation and deflation.

LONDON (CNNMoney)

Reducing interest rates for the second time this year, the central bank cut the main refinancing rate to 0.25% from 0.5%. It kept its deposit rate unchanged at 0%.

Some economists had called for the ECB to cut interest rates at Thursday's meeting, after a surprise decline in inflation. But most had expected the central bank to wait until December, when it will have third-quarter GDP data to consider and a better idea of the trend in inflation.

Eurozone unemployment is stuck at record levels above 12% and the economy is failing to generate momentum after emerging from recession earlier this year.

Unemployment won't start falling until 2015 at the earliest, according to EU forecasts published this week. The European Commission trimmed its estimate of GDP growth next year to 1.1%, and said it was too early to declare an end to the region's crisis.

With 19 million out of work and wages barely rising, domestic demand remains very weak.

The euro's rally in recent months against major currencies has made life more difficult for Europe's exporters, and slower growth in emerging markets hasn't helped.

Industrial production in Germany, Europe's export powerhouse, suffered a surprisingly large fall of 0.9% in September, showing that manufacturing companies are still very cautious about the economic outlook.

Related: Eurozone crisis not over yet, warns EU

Confirming the fragility of the recovery, retail sales across the 17-nation eurozone fell by 0.6% in September, compared with August, and were just 0.3% higher than a year earlier. Sharp declines were recorded in Spain and Portugal, countries that had recently shown signs of putting the crisis behind them.

Eurozone prices rose 0.7% in October, after a 1.1% increase in September, with food prices and the cost of services coming under the most pressure.

Deflation, or a general fall in prices, can tip economies into a downward spiral as consumers and businesses delay purchases in anticipation of further falls to come. It also increases the value of debt, a big risk for the eurozone where government debt is expected to hit 96% of GDP next year.

Related: Year of Abenomics delivers Japan revival

European officials have played down the chances of deflation, but there's a growing risk that price rises will undershoot the ECB's target of "below but close to 2%" by a wide margin for an extended period.

Meanwhile, the Bank of England kept interest rates unchanged, as expected. Growth in the U.K. is picking up strongly, but the bank's governor Mark Carney has made clear he won't raise rates until unemployment falls to 7%.

First Published: November 7, 2013: 8:08 AM ET

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