ECB prepares rate rise as global tide turns

 The ECB is the first of the big central banks to signal a rate rise to curb inflation, marking a major turning point in the global policy cycle. Photo: AFP

"We are in a posture of strong vigilance: an increase in interest rates at the next meeting is possible," said ECB president Jean-Claude Trichet, following a meeting of the governing council. The code word "vigilance" sent the euro rocketing to almost $1.40 against the dollar.

The ECB is the first of the big central banks to signal a rate rise to curb inflation, marking a major turning point in the global policy cycle.

"This is a shock," said Silvio Peruzzo from RBS. "This raises risks for the eurozone periphery through all kinds of channels. Most mortgages in Spain are on floating rates."

Santiago Carbó from Granada University said the shift was "very worrying" for Spain. "It catches us at a bad time: we haven't finished cleaning up the financial system."

Mr Trichet said the ECB aims to stop inflation psychology gaining a foothold, though he played down fears of a "series" of rate rises. As a concession, the ECB once again extended its unlimited 3-month liquidity for "addicted" Irish, Greek, and Iberian banks.

The ECB is starkly at odds with the Federal Reserve on the impact of surging oil and food prices. Fed chair Ben Bernanke said this week that inflation spill-over is likely to be "temporary and relatively modest". The Fed view is that commodity shocks drain demand in the wider economy, acting as a deflationary tax.

The ECB's task is hugely complicated by the widening North-South split and incipient wage inflation in Germany. Jörg Krämer from Commerzbank said the ECB's 1pc rate is "far too low" for booming Germany".

Dr Krämer thinks that the ECB is tilting monetary policy to help Club Med and Ireland, a view widely held in Germany and reinforced by the resignation of Bundesbank chief Axel Weber following his refusal to back ECB rescue policies.

German loss of control over EMU's monetary machinery is a neuralgic issue, threatening a unwritten contract with the German people that the euro would be as hard as the old D-Mark. Hawkish moves by the ECB at this stage may be intended to keep German opinion on board and head off an EMU political crisis.

Yet the eurozone recovery remains fragile. The M3 money supply has been contracting for two months; fiscal policy is tightening across much of EMU; and there is no deal yet on the EU bail-out fund.

Albert Edwards from Societe Generale said the ECB is repeating the error of July 2008 when it met the oil spike with a rate rise, even though the eurozone economy was too weak to cope. "China's leading indicators are already tipping over, which will have a big impact on German exports. All we need now to push the world back into the recession is an ECB rate rise."

Mr Edwards said Club Med will face a double blow from credit tightening and a stronger euro. "They are going to pull the rug away from under the feet of the eurozone. Do they want it to break apart?"

View the original article here

This post was made using the Auto Blogging Software from WebMagnates.org This line will not appear when posts are made after activating the software to full version.