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ECB policymakers deny higher rates will hurt growth

Investor confidence in Germany plunged to a near eight-year low partly due to worries about tighter ECB monetary policy, fanning concerns that more rate increases would choke economic growth.

German Finance Minister Peer Steinbrueck renewed his calls for the central bank to tread carefully.

But consumer confidence in Italy jumped, underscoring the mixed pattern of recovery in the 12-nation region which is growing at its best pace in over five years.

ECB Governing Council members Axel Weber and Guy Quaden said that higher rates were not at odds with continuing growth, adding to a barrage of tough talk over recent days which has prompted many investors to rethink how high rates will go.

“For us, it is not about short-lived upswing but about consistent, lasting growth,” Weber said in an interview with Germany’s Frankfurter Allgemeiner Zeitung.

The ECB has raised rates four times since early December while the euro zone economy enjoys its best growth in more than five years and inflation remains high.

Quaden, who heads the Belgian central bank, said the ECB could fight inflation while still supporting the economy.

“Our goal is price stability as you know. It’s not in contradiction with the support of economic growth and since we started to normalise interest rates in the euro zone at the end of last year, the economic growth continues to develop in the euro zone,” he told news agency Market News.

Political warning

Politicians are not convinced, however. Steinbrueck urged ECB caution, a stance shared in the past month by colleagues in France and Austria.

While noting it was an old rule that politicians should never comment on interest rates, Steinbrueck told Bloomberg Television: “I would be grateful if (the ECB) took into account the effect rates have on government debt and growth.”

The central bank left rates at 3.0 percent at its last meeting but its stance of “strong vigilance” on price risks has primed investors to expect another rise on October 5.

Some observers have wondered if policymakers are even weighing a 50 basis point rise next month. But Barclays Capital economist Julian Callow said the recent flurry of hawkish comments did not necessarily reflect the majority view.

“We still expect 25 basis points,” he said.

The fall in German confidence and soft US data have led some to scale back bets on ECB rates hitting 3.75 percent by mid-2007. Money markets were pricing a 68 percent probability late on Tuesday, from 88 percent on Monday, but still higher than last week.

No all-clear on inflation

Germany’s ZEW think-tank said weaker US growth and rising ECB rates were among the factors dampening investor sentiment in the region’s biggest economy.

The ZEW index fell more sharply than expected in September to -22.2, the eighth monthly drop in a row, hitting German stocks and sending the euro to day lows against the dollar.

Markets had earlier shrugged off good news from Italy, the third largest economy, where consumer confidence rose to a four-year high of 110.1. The ISAE institute noted inflation tensions had eased, following a dip in oil prices in recent weeks.

Softer economic growth would also take some pressure off inflation, which was running at 2.3 percent in August, above the ECB’s 2 percent price stability ceiling.

But ECB policymakers showed no sign of relaxing their stance. Quaden and fellow Governing Council member Erkki Liikanen both said the ECB was “very vigilant”, reinforcing the central bank’s determination to head off inflation risks.

”We have to remain very vigilant and take measures when necessary,” Liikanen told Agence France-Presse, adding that it would be “a challenge” to bring inflation below 2 percent.

“Energy prices are high, there have been fluctuations, but even so they remain high and they risk being passed on to consumers,” he said.

The ECB already expects to miss its price stability goal in 2007 for the eighth year in a row, and German producer price inflation was higher than expected in August, adding to concerns about price pressures.

The Netherlands’ Nout Wellink said the ECB could not afford to drop its guard and confirmed rates had further to rise.

“With inflation above 2 percent, you should be vigilant. Our last step was not the last step,” he told news agency Dow Jones.

Four euro zone monetary sources have told Reuters the ECB expects to continue raising rates into 2007, beyond the 3.5 percent level markets had seen until recently as the peak, if inflation risks heightened and growth stayed on trend around 2 percent.