Eurozone rates rise to 2.25 per cent
By Steve Johnson
Published: December 1 2005 12:46 | Last updated: December 1 2005 12:46
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The European Central Bank raised its main refinancing rate by 25 basis points to 2.25 per cent, its first hike since October 2000.
The move was widely expected, with Jean-Claude Trichet, the president of the Frankfurt-based bank, having telegraphed a hike two weeks ago when he said the governing council was “ready” to take a decision on interest rates. All 57 economists pooled by Bloomberg had expected a rate rise.
Eurozone rates had been held at an historic low of 2 per cent since June 2003 against a backdrop of sluggish growth and high unemployment. While real rates have been negative for much of this time, this discrepancy has become more clearcut of late as headline consumer price inflation has risen above 2 per cent.
While this week’s flash estimate of headline inflation in the year to November came in at 2.4 per cent, below the recent peak of 2.6 per cent in September, inflation is running markedly above the ECB’s target rate of “close to, but below” 2 per cent, the level it believes is consistent with price stability.
With money supply and credit growth figures also at elevated levels, the bank has pulled the trigger in an attempt to stop expectations of higher inflation becoming entrenched.
Data released earlier this week showed M3 broad money supply growing at an annualised rate of 8.2 per cent over the past quarter, well ahead of the ECB’s 4.5 per cent reference rate. Within this private sector credit growth appears to be accelerating, with loans to households rising 9 per cent in October and lending for house purchases up 10.8 per cent.
The relative weakness of the euro, which has fallen 13.3 per cent to $1.178 against the US dollar so far this year, will also have influenced the governing council’s thinking. A weaker currency leads to higher oil prices in euro terms and a greater risk of imported inflation in general.
However monetary tightening has been opposed by a number of leading eurozone politicians, despite most economists arguing a quarter-point hike will have little effect on economic activity.
Jean-Claude Juncker, prime and finance minister of Luxembourg, said this week the ECB “ought to beware of raising interest rates”. “There are vulnerable, fragile elements’’ in Europe’s economy, added Mr Juncker, who heads the group of euro-region finance ministers.
Thierry Breton, the French finance minister, also argued that a lack of second-round inflationary effects from higher energy prices alleviated the need for an imminent rate rise.
Core inflation, which strips out food and energy prices, was only 1.4 per cent in the year to October, while eurozone GDP growth has remained soft at 1.6 per cent in the year to the third quarter.
While the political barrage did not deter the ECB from raising rates on Thursday, it may have damped expectations for significant further policy tightening. Mr Trichet is on record as saying that, at this stage, he does not see the ECB following the US Federal Reserve in initiating a series of interest rate rises.
The market expects two further quarter-point eurozone rate rises in 2006, taking the refinancing rate to 2.75 per cent.
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