European Banks Confront Economic Slowdown

FRANKFURT — Europe’s top two central banks highlighted rising hazards to economic growth on Thursday, with the Bank of England cutting interest rates and the European Central Bank, in a reversal, signaling that it might follow suit.

Abandoning threats to raise interest rates, the European bank said that a cooling United States economy and financial market turbulence were taking a toll on the 15-nation euro zone. That assessment, given after the bank left its benchmark rate unchanged at 4 percent, appears to pave the way for a lowering of borrowing costs later in the year.

Fighting much more acute problems in a country that is closely tied to the American economy, the Bank of England cut its benchmark rate by a quarter percentage point to 5.25 percent. It was the bank’s second such move in two months as it struggled to contain a downturn that began with declining housing prices but has spread to consumer spending. Financial market turbulence has compounded the British central bank’s woes.

The European bank president, Jean-Claude Trichet, threatened in January to act “pre-emptively” to raise borrowing costs. At the time, Mr. Trichet fretted that unions would seek wage deals that, on top of higher energy prices, would push up inflation. On Thursday, he sounded distinctly more cautious.

“While the economic fundamentals of the euro area are sound, incoming data have confirmed that the risks surrounding the outlook for economic activity lie to the downside,” Mr. Trichet said.

After the Federal Reserve reduced its benchmark rate on two occasions in late January, the European bank was criticized for refusing to at least consider whether easier credit would befit Europe’s situation. Growth on the Continent is under heavy pressure from a looming American recession, a strong euro and high oil prices. Business confidence surveys and other data have pointed toward a slowdown.

Yet as recently as two weeks ago, Mr. Trichet emphasized the bank’s commitment to fighting inflation, suggesting it would not back off its threat to raise rates. That stance now seems to have shifted.

“It’s equivalent to unlocking the rate-cut door and nudging it slightly open,” Julian Callow, the chief Europe economist at Barclays Capital in London, said. “The bias is for lower rates now.”

Bank watchers are now betting that the European bank will ease rates in April or May, with an outside chance that it will act next month.

Two months after Mr. Trichet revealed that some members of the bank’s rate-setting body wanted to raise rates, he said Thursday that the tone of the discussion had changed. “There was no call for increase of rates or decrease of rates,” he said.

Although the bank’s primary mandate is to combat inflation, it has some flexibility to consider the growth outlook, economists said. Inflation is now over 3 percent, well above the bank’s target of less than 2 percent, but that number is expected to decline as food and oil price rises taper off.

Also, slower growth, whatever the reason for it, would slacken demand and eventually push up unemployment. With consumer purchasing power under pressure, companies would find little room to pass on higher energy and commodity prices.

Indeed, Mr. Trichet gave a vital signal in this respect when he said that the expansion in the euro area seemed to be proceeding “on the lower side of growth potential.” An economy’s growth potential is the rate at which it begins generating rising inflation.

The Bank of England is facing a tougher quandary, since inflation in Britain is expected to accelerate despite a sharp downturn over all. That stems mainly from higher utility bills, pricier food and a weaker pound.

Inflation in Britain, now at 2.1 percent, could outstrip its target of 3 percent this year, economists said. That would require the bank’s governor, Mervyn King, to explain in writing to the British government why inflation has exceeded the bank’s goal — a mandate created when the bank was given its independence in 1997.

“The bank is easing interest rates in light of softening demand, but it cannot accelerate that given the situation with inflation,” Alan Clarke, an economist in London with BNP Paribas, said.

Though the bank’s shift is bound to draw accusations that it has been behind the curve in acknowledging the impact of a slowdown, some analysts suggested that the bank was responding sensibly.

The Fed is trying to pre-empt a recession, or the worst aspects of it. That could be a smart move in a country with a collapsing housing sector and rising unemployment, but perhaps unsuited to the less dire conditions in Europe.

“What the E.C.B. is not willing to do is engage in the very aggressive risk-management that the Fed does,” said David Mackie, chief Europe economist in London for JPMorgan Chase. “They are not persuaded that it is appropriate for Europe.”

For his part, Mr. Trichet shrugged off criticism that the bank might be “behind the curve,” a phrase deployed often at the World Economic Forum in Davos, Switzerland. “I must confess that central banks are used to hearing that from time to time,” he said.

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