2012.05.25 15:41:52 UPDATE: India's Foreign Exchange Reserves Drop For Third Week

By Geoffrey T. Smith Of DOW JONES NEWSWIRES LONDON (Dow Jones)--With the euro-zone economy weakening and confidence ebbing from the region's banks by the day, the idea that the European Central Bank might surprise the markets with more monetary easing next week is gaining ground. The market's focus has returned to the ECB after an informal meeting of the European Union's leaders earlier this week failed to result in any concrete action to stop the region's seemingly irreversible slide back into recession. "We suspect that the recent worsening in the euro-zone cyclical outlook and the escalating fears about Greece could provide sufficient incentive for more easing," Citi analyst Valentin Marinov wrote in a note to investors, while WestLB's John Davies argued that the ECB "will soon have to act again to ease its monetary stance by probably cutting the refinancing rate". Davies expects a 50-basis-point cut at next week's meeting, which is taking place Wednesday in Barcelona. Analysts at UFJ Mitsubishi, meanwhile, point out that fears of a possible Greek exit from the euro zone are, more and more, deterring both companies and banks from investing. They also expect a cut in the refi rate "soon." Any action at all would be something of a surprise, though. The ECB has had a long-term objection to cutting its refinancing rate below 1%, afraid of making the region's money market dysfunction by setting the nominal price of money too close to zero. At May's regular press conference, President Mario Draghi said the governing council didn't even discuss cutting rates. Hopes for action have been emboldened by some shocking confidence survey data in recent days. Markit's composite purchasing managers' index for the euro zone fell more than expected in May to 45.9 from 46.7, while the Conference Board's leading economic index survey fell 09% to 104.8, reversing nearly all its gains of the previous two months. Perhaps most worryingly for the ECB, there were signs that Germany's economy, which has dragged the rest of the region along for much of the recent past, is also losing steam. The Ifo business climate index for May fell far more than expected to 106.9, its lowest reading since November. That follows a significant first decline in five months in the ZEW expectations index. Although not as accurate as Ifo in tracking actual activity, the ZEW index has been a reliable signaller of turning points in the past, says Berenberg Bank Chief Economist Holger Schmieding. Recent rhetoric by top ECB officials has hardly done much to encourage hopes of action, with neither Draghi nor board member Joerg Asmussen dropping any kind of hints in speeches Thursday. Both will be acutely aware of the risk of being seen to give in to political pressure for action, after reportedly being browbeaten by the French, Spanish and even non-euro-zone U.K. heads of government on Wednesday and before. The only hint of action came with a speech Friday by board member Peter Praet who, as the man responsible for the ECB's economics department, will make the opening presentation at Wednesday's meeting that frames the discussion on policy actions. Praet came surprisingly close Friday to a frank admission of failure, saying "monetary policy has ceased to convey balanced and homogeneous signals to the euro-area economy as a whole," and acknowledging the vast differences in monetary conditions from one euro-zone country to another. That kind of talk could theoretically pave the way for more "non-standard" measures from the ECB aimed at tackling specific problems in financial markets. But both the Securities Markets Program, through which the ECB buys government bonds, and the ultra-long term refinancing operations, which have had the effect of getting banks to do the same thing, face stiff resistance from Germany in particular. Both inside and outside the bank, there is acknowledgement that bond purchases haven't managed to keep a sustained lid on yields, while Deutsche Bundesbank President Jens Weidmann has already warned against increasing the risks on the ECB's balance sheet further, mindful that his country would shoulder more than a quarter of the total. The ECB's lending to banks has more than doubled to in excess of on in the pst year, with around three-quarters of that going to banks in the five most troubled countries in the region--Greece, Ireland, Portugal, Spain and Italy. -By Geoffrey T. Smith, Dow Jones Newswires (+44 207) 842 9941; geoffrey.smith@dowjones.com (END) Dow Jones Newswires May 25, 2012 09:48 ET (13:48 GMT)