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ECB Holds Steady in Fight Against Inflation, Despite Contracting Economy

By Jennifer Yousfi
Managing Editor

Despite economic contraction in the second quarter, the European Central Bank (ECB) yesterday (Thursday) maintained its hawkish stance on inflation.

Led by President Jean-Claude Trichet, the ECB’s monetary policy committee voted to hold interest rates steady at 4.25%.

“Upside risks to price stability prevail,” Trichet said at a press conference in Frankfurt after voting to keep the rate at its seven-year high, Bloomberg News reported. “We’re resolute in our determination to keep inflation expectations in line with price stability.”

In July, the ECB increased its key interest rate by 25 basis points to its current level from 4.0% in hopes of curtailing second-round inflation effects.

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But the Eurozone economy, which covers the 15 nations that share the euro currency, contracted 0.2% in the second quarter, according to Eurostat. And due to weakening in the Eurozone economy and a faltering euro that is at a seven-month low versus the dollar, many traders and investors had hoped for an easing of rates. 

“Upon leaving rates at 4.25 percent this Thursday, the ECB will probably refute market hopes for a rate cut in the near future,” Bank of America Corp. (BAC) Economist Holger Schmieding said in a research note.

The ECB also revised its outlook for economic growth down, moving its forecast for 2008 to 1.4% from 1.8% and its forecast for 2009 to 1.2% from 1.5%.

Still, while inflation has begun to moderate, it is still at 3.8%, well above the ECB’s target rate of 2.0%. And Trichet firmly believes combating inflation must be the central bank’s top priority.

“There is particularly a very strong concern that the emergence of broad-based second-round effects in price and wage-setting behavior could add significantly to inflationary pressures,” Trichet said at the press conference. The ECB is watching current wage talks with several labor unions “with particular attention.”

The Bank of England (BOE) also voted yesterday to hold interest rates steady.

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September 4th, 2008

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This entry was posted on Thursday, September 4th, 2008 at 6:58 pm and is filed under ECB, Top News. You can follow any responses to this entry through the RSS 2.0 feed. Due to the amount of comments we receive Money Morning will not be able to respond to all questions. If you have not already registered to leave a comment, once doing so you will receive Money Morning's Daily Email.

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  1. Pingback by With OPEC Meeting Looming, and Emerging Markets Growing, Oil Prices May Only be Temporary on 8 September 2008:

    [...] may bring some inflation relief.  Both the European Central Bank (ECB) and the Bank of England chose to leave their short-term rates unchanged, removing some pressure from the Federal Reserve here in the United States to raise its Federal [...]

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