Markets reeling as ECB warns of interest rate rise
Irish outlook ‘much poorer’ in light of possible July increase
IN a move which surprised markets and drove the euro up two cents against the dollar, the European Central Bank (ECB) yesterday warned that interest rates could rise as early as July as it bids to dampen rising inflation in the euro zone.
Economists said such a rise will damage the prospects for economic recovery here, with IIB Bank economist Austin Hughes saying a rise in rates will hit consumer confidence.
The Bank of England also kept its rates on hold yesterday, pegging them at 5.5pc.
ECB president Jean-Claude Trichet said the Governing Council had agreed to leave rates on hold at 4pc for this month but added that the bank was determined to win the war against inflation.
Some members of the ECB's 21-member policymaking council had wanted to raise rates now, some saw a case for a rate rise later, and some saw no case at all, Trichet told the ECB's monthly news conference in Frankfurt.
"We could decide to move our rates a small amount in our next meeting in order to secure the solid anchoring of inflation expectations," he said.
"I don't say it's certain. I say it's possible." The language used by Trichet was unusually blunt, as ECB officials normally use coded signals to address the markets, leaving itself plenty of room for manoeuvre.
IIB Bank economist Austin Hughes said the indication that interest rates could rise as early as next month "is probably the biggest shock the ECB has delivered to financial markets in its nine-and-a-half-year history.
He said it is now almost certain rates will rise next month. "Mr Trichet went so far today in preparing the market for a rate rise in July that it is difficult to see what would make the ECB decide against hiking rates next month.
"A failure to raise rates would leave markets completely lost as to what determines ECB policy and communications," he said.
For the Irish economy, Mr Hughes said the prospect of higher interest rates will further weaken the property market.
"Consumer confidence will be hit as rising borrowing costs add to pressure coming from much more expensive energy and food. So, the squeeze on household spending is set to be particularly painful," Mr Hughes said. "The outlook for activity and employment in the Irish economy in the second half of 2008 now looks a good deal poorer," he added.
The euro gained two cents or half a per cent against the US dollar in the wake of Trichet's comments, rising to $1.5511.
Before the meeting, most economists had expected the ECB to keep rates on hold before cutting them towards the end of the year, though rate futures traders thought a rate rise was due for late 2008.