ECB Hikes Rates As Forecasted

Thursday, March 02, 2006

Three months after the last rise the European Central Bank (ECB) has again unanimously hiked the leading overnight rate by 25 basis points to 2.5%. ECB president Jean-Claude Trichet said in his introductory statement at the press conference that the step "reflects the upside risks to price stability that we have identified on the basis of both our economic and monetary analyses. The adjustment of interest rates will contribute to ensuring that medium to long-term inflation expectations in the euro area remain solidly anchored at levels consistent with price stability."
With its move the ECB proves that it won't let loose in fighting inflation. The ECB has no mandate to help Europe's ailing economies back on its feet. Trichet announced that "quarter-on-quarter real GDP growth in the euro area was 0.3% in the fourth quarter of 2005. This was considerably lower than the strong 0.6% recorded in the previous quarter."
The ECB sees a possible improvement though - as it has all year long last year. "The March ECB staff macroeconomic projections have provided an additional input into our analysis of the prospects for economic activity. These projections foresee average annual real GDP growth in a range between 1.7% and 2.5% in 2006, and between 1.5% and 2.5% in 2007," Trichet said.
Inflation To Remain Above Target Rate
The inflationary outlook retains upside risks, mainly stemming from high energy prices, Trichet said. "Annual HICP inflation is projected to lie between 1.9% and 2.5% in 2006, and between 1.6% and 2.8% in 2007."
Trichet added that "risks to the outlook for price developments remain on the upside and include further increases in oil prices, a stronger pass-through of oil price rises into consumer prices than currently anticipated, additional increases in administered prices and indirect taxes, and - more fundamentally - stronger wage and price developments than expected due to second-round effects of past oil price increases.
ECBspeak: Money Supply Remains "Robust"
Galloping money supply got downplayed by the ECB again. To quote Trichet: "Turning to the monetary analysis, the Governing Council has again discussed the assessment of monetary developments in depth. The annual growth rate of M3 remains robust, notwithstanding signs of a resumption of the unwinding of past portfolio shifts into monetary assets, which exerts a dampening effect on headline M3 growth. Looking through the short-term effects generated by such portfolio behaviour, the trend rate of monetary expansion remains strong, reflecting the stimulative impact of the low level of interest rates. Moreover, the annual growth rate of credit to the private sector has strengthened further over recent months, with borrowing by households - especially loans for house purchase - and non-financial corporations rising at a marked pace. Overall, strong monetary and credit growth in an environment of ample liquidity in the euro area points to risks to price stability over the medium to longer term."
Trichet summed it all up. "To sum up, annual inflation rates are projected to remain elevated in 2006 and 2007, and the economic analysis indicates that risks to price stability over the medium term remain on the upside. Given the strength of monetary growth and the ample liquidity situation, cross-checking the outcome of the economic analysis with that of the monetary analysis confirms that upside risks to price stability prevail. An adjustment of interest rates was therefore warranted."

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