Bank Of Spain Backs 1997 Budget With Rate Cut

The central bank seized the first possible opportunity after the government unveiled the draft to reduce its key money market rate to 6.75 percent from 7.25 percent. Spain analysed the budget they saw it optimistically. This supports the budget. I would take it as a sign that with the small amount of time (the government) has had they've done well," said Juan Antonio Mielgo, economist at Bank of America in Madrid.

The Bank of Spain, after a series of quick cuts in the repurchase rate this spring, had left the repo frozen since early June while it awaited evidence the minority Popular Party government would deliver the austere budget it had promised.

 

On Monday, the administration officially presented to the legislature its plan to whip the nation into fiscal shape for the launch of common currency in 1999 by slashing the deficit and bringing down debt. The deficit is set to narrow to three percent of gross domestic product from 4.4 percent this year and 6.6 percent in 1995 and debt will decline, allowing Spain to vault the key obstacles to its timely participation in the Euro.

"The presentation of the budget must have satisfied the Bank of Spain," said Benjamin Serrano, economist at Analistas Financieros in Madrid.

All 10 of the economists polled by Reuters on Wednesday had expected the central bank to reduce its rate, but many had thought it would be more cautious and only slice 25 basis points off the repo.

Financial markets shrugged aside the actual move - the peseta was little moved and Spanish bonds and shares dipped slightly. But analysts said the markets' fundamental buoyancy remained intact although they ignored the rate cut.

Since the end of August, the spread of Spanish bond yields to German Bunds - a measure of the premium demanded for holding riskier Spanish bonds - has compressed to 174 from 246 as Spain's European aspirations appeared more and more realistic.

Spanish shares remain near record highs, while the hardy peseta continued to bang away at 84.00 per mark. Given this strength, analysts contend that the Bank of Spain has more room to manoeuvre and many expect a further reduction should inflation continue to decline.

"We have much more in store," said Henrik Lumholdt, also of Bank of America. "I think we'll see at least another 50 (basis point cut) over the next three months."