Economists warn of higher rates

STRONG recovery indicators from Germany brings higher Eurozone interest rates closer, economists warned yesterday.

The markets expect rates to be increased 0.5% to 2.75% by year end as the cautious European Central Bank moves to keep inflation in check.

Some economists expect rates to rise by 0.75%, bringing the total rise to 1% since the ECB made its first 0.25% hike in December.

Dermot O’Leary of Goodbody Stockbrokers believes the ECB will be more constrained and raise rates by just another 0.5%.

The overall hike of 1% would cost borrowers e1 billion in extra mortgage repayments.

In a continuing show of recovery, the IFO index of German business confidence was stronger than expected for the second month in a row.

It hit a five-year high at 102 in January from 99.7 in December. Mr O’Leary said this suggests the core Eurozone economy continues to improve with favourable implications for earnings.

NCB Stockbrokers said the improving economic picture hands “the tightening-prone ECB more scope to take its official interest rate higher than the current low level of 2.25%”.

However, the threat of higher interest rates is not the issue for the economy going forward.

A Reuters poll of 10 leading Irish economists yesterday showed an average GDP growth projection for the economy in 2006 of 5.1%, more than twice the EU average.

In his latest review, AIB chief economist John Beggs said the falling dollar posed the single biggest risk to the Irish economy.

He warned the continuing imbalances in the US economy and the effect they will have on currency valuation could play a major part in how the Irish economy performs in 2006.

However, he has predicted that despite the weakness in the dollar against the euro its decline is likely to be limited to below the $1.30 level and as such will not have too negative an effect on the Irish economy.

“We need to keep a close eye on developments in the US and see how the dollar is faring. If the problems in the US economy, such as the problems in the US housing market continue, then that could have serious knock-on effects for the strength of the dollar and in turn that will play a major part in how our own economy performs in 2006,” Mr Beggs said.

In his forecast for 2006, he warned the forthcoming pay talks would be critical to economic performance going forward.

“It is imperative that the transient nature of any increases in inflation are recognised during the forthcoming pay talks,” he said.