Subprime fallout forced ECB to hold rates
Even the telltale “strong vigilance” phrase, normally the harbinger of an impending rate, were nowhere in the script, published after the 15 member euro states met in Frankfurt to set interest rate policy.
President Jean-Claude Trichet’s warning that the bank was prepared to raise rates if necessary suggests rates are certainly not on the way down, although the markets are expecting the US to make a few more cuts in the coming months.
Inflation pressures remain strong thanks to dearer energy and rising food prices.
As a result inflation is standing at a six-year high of 3.1% and Trichet’s credibility would have suffered if he failed to point out the drift in the consumer price index. That figure is well above the ECB’s target of close to, but below 2%, and he noted that inflation is expected to remain significantly above 2% in the coming months and would only ease gradually during the year.
Under normal circumstances the high inflation rate would have resulted in a hike in ECB rates.
Before the August credit crisis erupted it was expected the bank would raise rates to 4.25% in September. Some even argued that it could go to 4.5% before rates peaked as the ECB acted to deliver on its sole mandate of keeping European inflation close to 2%.
However, the US housing mess, defined in that one word, subprime, forced the ECB for the first time to effectively think beyond its strict mandate.
Since August the Federal Reserve, the ECB and other major central banks have had a far more serious short-term crisis to deal with — the drying up of lending between banks in the global market.
With banks internationally exposed to billions of bad debts resulting from the subprime debacle they stopped lending to each other.
Many observers suspect the US is already in recession, and some expect interest rates to be slashed to 3% as the Fed tries to keep the economy afloat. Its action has stayed the ECB’s hand.
Prior to last September’s ECB monthly meeting economists warned the ECB’s standing would be seriously damaged had it raised rates back then.
To the relief of global markets it did not.
However, as the global economy slows inflation is likely to fall next year, and under those circumstances the ECB, despite the sabre rattling on Thursday, could keep rates on hold this year.
Slowing international demand will see prices ease back and that should take the pressure off the European Consumer Price Index.
While central bankers look to have dealt with the credit crunch triggered by the US housing crisis, it has put intense focus on the Britain and Irish housing markets, with devastating consequences for the Irish stock market in particular, where nearly €30 billion has been wiped off the value of share
The latest CSO figures for December showed the Live Register increased by 2,100, but was 15,100 higher than the same month last year.
But the increase does not mean the end of the line for the economy.
Unemployment will rise by about 1% to about 5.6%, but that still leaves us well ahead of the rest of Europe.
Services exports are rising and the IDA continues to attract a large number of multinational investors.
In that sense the devastation suffered by the stock market here due to the fixation with property, bears no relationship to the underlying reality of what this economy is about.
