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September 21, 2017

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Eurozone faces close call on interest rates

FRANKFURT, Germany -- The European Central Bank is weighing conflicting signals from the economy as it considers whether to cut interest rates again for the 18-country euro bloc.

The bank's 24-member governing council meets Thursday in Frankfurt, Germany. A number of economists think it will hold off cutting rates or taking other measures that might stimulate the economy, which is growing more slowly than people would like.

A few economists, however, think the ECB will cut its benchmark rate from its record low of 0.25 percent, probably to 0.1 percent.

The benchmark rate is what the ECB charges banks for loans — and so influences the cost of credit. Cutting it in theory makes it easier for people to buy new homes and for businesses to borrow and expand production.

However rates are already very low and lending remains weak. So the ECB could also take other actions include offering cheap loans to banks. That would likewise tend to push down the cost of short-term credit in the market. It's also on paper possible for the ECB to buy bonds to pump newly created money into the economy, as the U.S. Federal Reserve, Bank of England and Bank of Japan have done — but less likely.

Here are key aspects of the economy the ECB will consider:

1. Thumbs Up

Some surveys suggest that the economy — which grew only 0.1 percent in the third quarter — remains on track for a steady, if unremarkable, recovery. In particular, a survey of the services and manufacturing sectors across the eurozone indicates economic activity is increasing. Spain, which is just emerging from a debt crisis and recession, saw the results of its survey hit a 78-month high.

2. Thumbs Down

Other readings are more ominous. That includes a low inflation rate, which fell to only 0.7 percent in January. The drop in inflation has fueled concern about deflation — a downward price spiral that chokes off investment and growth.

Additionally, retail sales are weak, suffering their biggest drop in over two and a half years in the crucial shopping month of December.

Lending to businesses and consumers, meanwhile, remains weak. A yearlong ECB check of the finances of major eurozone banks should weed out the weaker lenders and force them to fix their balance sheets. That would help shake up banks so that they can offer more loans. In the short run, however, that could constrict credit as banks try to burnish their finances by holding more reserves and taking fewer risks.

Told You So — Again?

Predicting a cut is Richard Barwell at Royal Bank of Scotland, one of the very few analysts who foresaw that the ECB would cut the benchmark by a quarter percentage point in November.

The low inflation number "does not force the council's hand," he wrote in a note to investors, "but on balance we think that a rate cut is the brave thing to do and the right thing to do and that is what we expect the council to do."

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