ECB Holds Rates at 4%

Eurozone interest rates have been left unchanged at 4 per cent by the European Central Bank as the threat of slower growth in the 13-country region offsets the dangers posed by higher inflation.

Thursday’s decision was widely expected, especially as ECB officials have continued to argue that more time is needed to assess the macroeconomic impact of the global credit squeeze.

High eurozone inflation, which hit 3 per cent in November, would in other circumstances have strengthened the case for increasing official borrowing costs. However, fresh ECB forecasts are expected to show the central bank has become more pessimistic about the growth outlook – while the strong euro has also severely limited its room for manoeuvre.

Financial markets will be listening to hear whether Jean-Claude Trichet, ECB president, announces fresh measures to ease money market tensions. This week has seen a renewed surge in market interest rates to fresh highs. Last week, the ECB announced emergency steps to avert a funding crisis at the end of the year, when banks will want to show strong liquidity positions on their books.

Some economists had speculated that the ECB might cut the interest rate incurred on its marginal lending facility, which acts as an emergency fund for banks with sudden liquidity shortages.

Mr Trichet may emphasise again at his press conference on Thursday afternoon that the ECB sees a clear distinction between its efforts to improve the functioning of financial markets and its main task of combating inflation.

Further insight into the ECB’s thinking will come from its updated forecasts. It is expected to lower its forecasts for 2008 eurozone growth and to stress "downside" risks ahead. The bank's policymakers have been taken aback by the wave of bank write-downs and significant tensions have re-emerged in credit markets. At the same time, its 2008 inflation forecast is expected to be revised significantly higher than the range with a mid-point of 2 per cent foreseen in September. A crucial factor will be its 2009 inflation forecast. A projected decline back within its target of an annual rate "below but close" to 2 per cent would reinforce the view that there is no need for official borrowing costs to go higher.

ECB Holds Rates at 4%

Financial Times
12/6/2007 6:36:24 AM