7 November 2001, 13:11 OUTLOOK ECB should cut rates tomorrow as inflation worries evaporate
By Stuart Williams
FRANKFURT (AFX) - The European Central Bank is expected to cut
interest rates tomorrow after remarks by president Wim Duisenberg
indicated the bank is now ready to respond to dwindling inflation risks
in the euro zone, economists said.
They added Duisenberg's remarks have helped dispell fears the ECB
would once again keep rates steady, even though the ECB's reputation
for unpredictability makes the outcome of the governing council meeting
still far from certain.
Duisenberg said in Brussels euro zone inflation will fall well
below the 2 pct stability ceiling next year, and is "sure" the
governing council will take this factor well into account when setting
interest rates.
"I think that after what Duisenberg said there should be cut, even
though that does not mean they will deliver one," said Julian von
Landesberger, economist at HypoVereinsbank.
"But if they do not cut they are going to get a heavy bashing," he
added.
The decision by the Federal Reserve to cut interest rates by an
aggressive 50 basis points should also encourage the ECB, even though
the bank firmly emphasises its independence from the Fed.
Economic data is also pointing firmly in the direction of a rate
cut, which signals euro zone inflation is moderating rapidly and the
economy is reeling from the effects of the Sept 11 US attacks,
economists said.
Preliminary euro zone October inflation data published on Monday
showed a rise of 2.4 pct year on year, moving ever closer into line
with the ECB's stability ceiling of 2 pct.
"The continued fall in inflation should allow them (the ECB) to
take the plunge ..., allowing an imminent rate cut this Thursday," said
Merrill Lynch economist Sharda Dean.
October purchasing managers indicies (PMIs) for the euro zone fell
dramatically to 42.9 from 45.9 in September, in the wake of a sharp
fall for the German Ifo index of business confidence.
Euro zone industrial confidence also plunged in October to the
lowest level since August 1996, while consumer confidence was the
weakest since August 1997.
"The European economy is only creeping towards a recovery and
inflation has already eased back significantly. This has given the ECB
further scope for action, which it will most probably use with a 50
basis points cut," said Anja Hochberg at Credit Suisse.
M3 money supply growth, at 7.6 pct for September, has shot well
above the ECB's reference value of 4.5 pct, but Duisenberg has
consistently emphasised that there are currently no risks to price
stability from this area.
With private sector credit moderating, economists believe this
presents the ECB with no obstacle for a rate cut. "In practice M3 does
not seem to play a large part in ECB decision making," said Merrill
Lynch's Dean said.
In a survey of 34 economists by AFX News and Agence France Presse
last week, all but one said they are expecting a rate cut from the ECB
this Thursday. Some six economists forecast a 50 basis points easing,
while 25 predict 25 basis points.
But many cautioned there is still a chance the ECB will risk the
wrath of disappointed politicians and the fury of anxious markets by
keeping rates unchanged on Nov 8.
Over the weekend, Bundesbank president Ernst Welteke had raised
eyebrows when he said in a German newspaper interview further rate cuts
could stoke up long-term inflation expectations by creating too much
liquidity.
He also warned monetary policy is not able to bring around an
economic turnaround and cannot strengthen the confidence of consumers
and companies.
"I am always uncertain when it comes to the ECB," said Commerzbank
economist Michael Schubert. "Duisenberg's comments support a rate cut
but the remarks by Welteke certainly do not."
He said all the theoretical options of a hold, a 50 basis point cut
and a 25 baiss point cut are possible outcomes on Thursday.
"The state of the economy would support a 50 basis point cut but
the careful comments of the ECB do not suggest this," he said
Economists said the ECB could damage the euro zone economy if it
underestimates the psychological boost a rate cut might give to
consumer and investor sentiment in the area.
Some reports suggested certain national central bank chiefs were
disappointed with the decision to keep rates unchanged at the last
meeting and the hawkish tone of Duisenberg's subsequent news
conference.
The ECB's insistence that the preservation of price stability is
the best contribution it can make to growth could prove dangerous in
recessionary times, economists added.
4Cast Analysis economist Gulliame Menuet said the ECB needs to do
more for the sake of growth. "In our view the effect of a 25 basis
points ease last time would have boosted sentiment by more than might
be the case normally by maintaining momentum at a critical time," he
said.
However euro zone finance ministers, who have made some highly
explicit demands for rate cuts recently, have largely refrained from
giving the ECB advice in the past week.
EU diplomats said ministers have now switched to a less
confrontational approach, as it is now clear attempting to push the
fiercely independent ECB towards a rate cut is counterproductive.
"Recent events have confirmed the rule that the more one talks
publicly about a lowering of rates, the less happens in Frankfurt," an
EU diplomat said.
Economists also believe the perceived interference from politicians
discouraged the ECB from cutting rates last month, and the silence this
time is a strong argument in favour of a rate cut.
"This gives the ECB more room to manoeuvre without risking their
credentials as an independent central bank," said Merrill Lynch's
Sharda Dean.
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