The European Central Bank (ECB) cut interest rates by 25 basis points to 1.25 percent on Thursday, reducing borrowing costs throughout the eurozone, to bolster market confidence as the bloc's week-old bailout package threatened to unravel in the face of Greek dithering over whether or not to hold a referendum on the rescue plan.

Although the interest rate cut gave an immediate boost to stock markets in Europe and in the US, ECB chief Mario Draghi said that - among other factors - low confidence in eurozone's sovereign debt markets could "dampen the pace of economic growth in the second half of the year and beyond." The ECB hopes that a reduction in borrowing costs will stave off this downward trend.

"What we are observing now is ... slow growth heading towards a mild recession by year-end," Draghi said during a news conference.

Political upheaval

European leaders had agreed on a comprehensive package to combat the continent's sovereign debt crisis during a marathon summit last week. The deal includes measures that would reduce Greece's obligations to private lenders by 50 percent, recapitalize banks and provide the 400-billion-euro ($551 billion) bailout fund with more financial firepower.

Political implementation of the package, however, has been placed in question by Greek Prime Minister George Papandreou's call on Monday for a national referendum on the measures. Since then, Papandreou has said that a referendum was "not an end in itself" and that it may not take place after all.

Should it take place and should austerity-weary voters reject the package, Greece could be forced to leave the eurozone altogether, a scenario that European leaders have considered out of the question since the crisis began in the spring of 2010.

The political turmoil surrounding Greece's bailout package has sent tremors throughout the eurozone with the rates on Italian government bonds hitting a record high on Thursday. In a controversial policy that has led to several resignations, the ECB has been buying up Italian and Spanish bonds to keep the eurozone's third and fourth-largest economies from succumbing to their staggering debt.

Draghi, former governor of the Bank of Italy, said that the ECB's bond-buying program was temporary.

"Maintaining orderly stability lies with national economic policies," Draghi said.

Author: Spencer Kimball (Reuters, AP, dpa)
Editor: Nicole Goebel