German Bank Reduces Key Interest Rate

Germany’s central bank lowered a key interest rate for the first time in four months Thursday, a surprisingly large cut aimed at reining in the strong German mark and boosting Europe’s biggest economy.

The Bundesbank lowered the 14-day securities repurchase interest rate, known as the repo rate, to 3%. It had been frozen at 3.3% since February.

The dollar rose against the mark immediately after the rate cut. The Bundesbank’s action also prompted central banks in Belgium and France to trim rates.

Germany’s repo rate is one of three instruments the Bundesbank uses to guide the economy and mainly influences money market interest rates.

The rate cut, at the council’s first meeting after a monthlong summer break, was bigger than many analysts had predicted.

“They have done in one big step what everybody expected them to do over a number of weeks,” said Joachim Fels, senior economist at Morgan Stanley International.

The bank left the discount rate and Lombard rate at 2.5% and 4.5% respectively. It last cut both rates on April 19, to their lowest since December 1987.

Bundesbank President Hans Tietmeyer said the continued slowing of growth in Germany’s broad M3 money supply was a decisive factor in the decision to cut the rate.

“We will now observe further developments for some time,” Tietmeyer told reporters on a conference call.

“We have, we believe, established clarity for the foreseeable future.”

The German cut--coming amid mark gains against the U.S. dollar and European currencies--was quickly followed by announcements of rate reductions in France, Belgium, the Netherlands and Austria.

Bond and stock markets rose across Europe, and the mark slipped to a five-week low against the U.S. dollar.

“It’s an expansive impulse for the European economies,” said Gerhard Grebe, an economist at Germany’s Bank Julius Baer.

The so-called M3 is the Bundesbank’s favored indicator of medium-term inflation trends. It consists of cash in circulation, most forms of savings, sight deposits and time deposits of less than four years maturity.

Low inflation also left room for a repo cut, Tietmeyer said.

The repo is now at its lowest point since the Bundesbank started open-market operations in 1979. The cut will take effect when the Bundesbank allots credits to commercial banks Wednesday.

“We are of the opinion that the various leading economic indicators show there is no danger to price stability in the foreseeable future,” he said.

Pressure for a rate cut was coming from German industry, which would like to see the mark fall further in order to boost exports, and from the timetable for launching a single European currency in 1999.

Lower rates are seen as helping European governments cut budget deficits to meet the criteria for joining the single currency.

The Lombard rate is the rate at which banks borrow emergency overnight funds from the central bank.

The discount rate is the cheapest form of central bank refinancing.

Prospects for further cuts in Germany are considered limited, given that all three German rates are at or near historic lows and Germany’s economy seems headed for recovery.

Revised Bundesbank figures this week showed June factory orders rising 1.9% in the month, while the Ifo economic institute said July business confidence had risen to a nine-month high.

INVESTOR SPOTLIGHT: Tracking European markets this year. D9