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ECB to set stage for interest rate hike

With the European Central Bank having raised rates in December for the first time in five years, analysts are now expecting ECB chief Jean-Claude Trichet to use his monthly Press conference to prepare the ground for another 25-basis point hike in the cost of borrowing in March.

This will come in the wake of the US Federal Reserve’s decision on Tuesday to deliver its 14^th consecutive rate rise — a 25 basis points increase, which pushed up official rates in the world’s biggest economy to 4.50 per cent, double the ECB’s current rate.

A 25-basis point increase in the eurozone next month would bring the European Central Bank’s benchmark refinancing rate to 2.50 per cent, with analysts expecting the ECB to tighten again as the year progresses. Indeed, some economists are now predicting that the cost of money in the eurozone could edge up to three per cent by the end of the year.

That said, however, they are not expecting any dramatic moves from the ever-cautious ECB.

“The ECB is likely to take its foot only slightly from the accelerator pedal, it will hit the brakes for a while,” said European economist Claudia Broyer.

The meeting of the ECB’s 18-head rate-setting council will also coincide with the release of the bank’s latest staff growth and inflation projections.

While revising up their 2006 growth forecasts to about 1.9 per cent, the last staff projections released in December also predicted that inflation will this year again remain above the ECB’s two per cent target with high energy prices fuelling inflationary pressures.

Economists are expecting eurozone January inflation data to be released one day after the ECB meeting to show consumer prices edging up to 2.4 per cent from 2.2 per cent.

At the same time, rapid credit growth as measured by the broad measure of the money supply, M3 and booming house prices in parts of the eurozone such as France and Spain have set the alarm bells ringing at the ECB’s headquarters in Frankfurt. The ECB considers M3 to be a key determinate of future inflationary trends.

While the ECB is expected to keep rates unchanged at its meeting today, the battle lines are also been drawn in what is expected to be an aggressive campaign for increased wages by unions in Germany, which is the eurozone’s biggest economy.

Trichet has consistently warned about the inflationary risks resulting from so-called second round effects such as wage hikes.

But after long period of stagnating wage growth, Germany’s biggest industrial union, IG Metall, has launched a drive for a five per cent pay increase in for its more than three million members.

IG Metall pay deals normally set the benchmark for wage settlements across German industry.

Prior to December’s 25-basis point rate rise, rates in the eurozone had been on hold at a post- Second World War low of 2 per cent since January 2003 as the European Central Bank attempted to shore up faltering growth and in the face of high unemployment and weak inflationary pressures.