ECB rates no longer a material drag on growth, Schnabel says

FRANKFURT (Reuters) -The European Central Bank interest rate that neither slows nor spurs growth has climbed in the past two years, and it's no longer clear the current 2.75% rate is still holding back the euro zone economy, ECB board member Isabel Schnabel said.

The ECB has reduced interest rates five times since last June and, while a cut next week is likely, policymakers are discussing how much further rates must fall when inflation is still a bit too high and the economy is struggling.

Schnabel said that the euro zone's economic weakness was not due to overly high borrowing costs but to structural factors, citing an ECB survey of banks and a modest rebound in lending.

"It is becoming increasingly unlikely that current financing conditions are materially holding back consumption and investment," Schnabel said in London. "The fact that growth remains subdued cannot and should not be taken as evidence that policy is restrictive."

Economists have widely differing estimates of the neutral rate but a recent ECB paper put it in the 1.75%-2.25% range. Schnabel said the rate had increased "appreciably" since 2022 and more than market prices would suggest.

She said this might be partly due to an increase in the supply of safe assets available as central banks, including the ECB, stopped hoovering up government bonds while countries continued to issue them to finance their deficits.

On the flipside, this so-called quantitative tightening (QT) also caused deposits at the central bank -- another form of safe assets available to banks -- to decline.

While these so called central bank reserves remain "ample," Schnabel urged that banks prepare for a future in which that may not be the case and they need to borrow more.

Solutions may include a "centrally cleared infrastructure" where banks could borrow and deposit from each other as well as the ECB, she said.

"(This) could contribute to making our operations more economical in an environment in which dealer balance sheets are increasingly constrained," Schnabel said.

Banks could also be required to test their operational readiness - a sore point in the liquidity crisis that brought down some U.S. banks in March 2023 -- or "pre-position" collateral to ensure they can readily obtain funding, she added.

(Reporting by Balazs Koranyi and Francesco Canepa; Editing by Bernadette Baum)