ECB to hold rates,say experts

THE European Central Bank (ECB) is likely to leave interest rates on hold this year as it awaits clear signs of economic recovery.

However, despite speculation of a cut, analysts still think the ECB's next move will be a rise.

The mid-range of 29 forecasts in a Reuters survey, taken from August 12 to 15, showed the ECB's key interest rate remaining at 3.25% until a quarter point rise in the second quarter of 2003.

Economists have pushed back the timing of a rate rise. In a similar poll taken in May they saw a hike to 3.5% in the third quarter of this year.

Only one economist in the poll predicted a rate cut in the fourth quarter of this year, but most said monetary policy will remain steady for longer.

"Growth has been rather weaker than the ECB thought previously and inflation has also turned out lower than expected," said Trevor Williams at Lloyds TSB in London.

"A key question is why (the ECB) don't cut... but clearly with inflation just about on target they're not prepared...to cut short term interest rates," he said.

Eurozone inflation rose to 1.9% in July from a previous 1.8%, but it was still below the ECB's 2% ceiling. It will average 2.2% this year and 1.8% in 2003, the mid-range forecast in the poll showed.

Some analysts have speculated that the ECB could cut interest rates soon to ward off damage to confidence and growth from tumbling share prices.

But the ECB's August monthly bulletin reinforced the bank's wait-and-see approach on interest rates, giving no hint it is considering a rate cut in the face of Europe's still sluggish recovery.

The bank said "risks to price stability have become more balanced", a marked shift away from its warning in the July bulletin that inflation risks were "tilted to the upside".

Frederic Pretet at Credit Agricole Indosuez in Paris sees rates on hold until a quarter point rise in the third quarter of next year.

"For the moment we think the ECB is likely to stay on hold until there is more optimistic news coming from abroad," he said.

"There is an increasing probability there could be a cut...if there is a move from the Fed, we will revise down our ECB call," he added.

The ECB has left rates on hold since November 8. The key US federal funds rate has remained at 1.75% since last December. In a recent Reuters poll, only six out of 21 Wall Street firms said the Fed will need to cut rates to ensure the economic recovery remains on track. The remainder said current low rates should be enough to keep the expansion rolling.

Economists see ECB rates at 3.75% in the third quarter of next year and then remaining steady until the first quarter of 2004 when they will rise to 4.0%, the mid-range forecast showed.

Elwin de Groot at Fortis Bank in Amsterdam predicted rates would stand at 4.5% in the fourth quarter of 2003.

"Chances of rate hikes this year have been reduced a bit... but still the picture remains one of continuing recovery in the euro zone," he said.

"At some point in time the ECB will have to move towards a more neutral stance because at the moment rates at 3.25% are still accommodative," he said.

Still, Adolf Rosenstock at Nomura in Frankfurt sees rates unchanged at 3.25% right through 2003.

"(We see) the European economy bumping along the bottom for quite some time before it recovers later next year," he said.

"That means a huge output gap in Europe which will not be closed for a couple of years and therefore an ECB rate hike has disappeared from the horizon."