Rate hikes, weaker euro on way, experts warn

EUROPE is facing higher interest rates and a weaker euro as US inflationary pressures pave the way for US interest rate hikes, economists warned last night.

The dollar bounced to five-week highs yesterday morning when news of higher than expected price inflation panicked the US Federal Reserve. It said that inflation had now become an issue for the world’s largest economy.

That was seen as a signal for further interest rate rises in the months ahead and the dollar rose sharply on the back of the Fed’s comments.

Analysts had been expecting a 0.2% rise in core prices for February but were taken aback when the increase was 0.3%.

Higher inflation bolstered speculation the Fed will abandon its policy of gradual increases in interest rates, analysts said.

The end result will be a further hike in US rates of 1.25% before the year end.

On Tuesday the Fed announced its seventh successive hike in US interest rates, pushing its key overnight rate to 2.75%.

Niall Dunne, Ulster Bank Markets economist and Alan McQuaid, senior economist with Bloxham Stockbrokers warned that the interest outlook had darkened overnight as inflation is finally acknowledged as a threat to US growth.

Both agree we face a hike of 0.5% in ECB rates from their current low of 2% by the year end.

Mr Dunne thinks the ECB might hit rates all at once with a 0.5% one-off increase.

Mr McQuaid expects the response will be more measured despite concerns about an easing of the stability and growth pact allowing countries to borrow more in the years ahead. By the year-end we can expect ECB rates to be at 2.5% and US rates at 4%, the Irish economists believe.

The Economic and Social Research Institute (ESRI) expects ECB rates to go up by just 0.25% in 2005 and by 0.5% next year.