--- by Steve Whitehouse ---
PARIS (AFX) - The European Central Bank will leave interest rates unchanged at its governing council meeting in Maastricht today, and scope for further rate cuts is now diminishing, economists said. Recent ECB comments, growing confidence about economic recovery and concerns about wage growth all suggest that the council will hold rates steady at this week's meeting, they said.
In a survey of economists carried out last week by AFX News and Agence France-Presse, 32 of the 34 economists polled said they expect the minimum bid rate on ECB refinancing operations to be left at 3.25 pct this week. The other two forecast a rate cut this week or at the council's March or April rate-setting meetings, with the March meeting seen as the most likely.
ECB president Wim Duisenberg has consistently said that the central bank sees interest rates as appropriate for its assessment of risks to price stability, and that the monetary policy stance already takes account of its expectation that inflation will slow to well below 2 pct this year.
The ECB would therefore need to see a reason to revise down its growth or inflation forecasts for it to cut interest rates, economists said.
There are also a series of factors which argue specifically against a rate cut at this week's meeting, they said. "The recent decline of the euro, price pressures at the beginning of January, tense wage negotiations in Germany and the level of public deficits are factors which justify leaving rates unchanged on Feb 7, and an end to the cycle of rate cuts in the euro zone," said Caisse des Depots economist Laure Maillard.
Euro zone inflation jumped to a provisional 2.5 pct in January from 2.1 pct in December.
The increase was seen as a temporary blip related to tax increases, a rise in seasonal food prices and the changeover to euro notes and coins, but the ECB will be keen to avoid this short-term increase translating into large wage rises which would have a more lasting inflationary effect.
"The council may well worry that higher current headline inflation will influence the upcoming wage negotiations in Germany and elsewhere," said Joachim Fels and Elga Bartsch of Morgan Stanley. Leading German union IG Metall has already said it will seek wage increases of 6.5 pct for its 3.6 mln members, and although he has avoided identifying particular cases, Duisenberg has emphasised that "excessive" wage increases in forthcoming wage negotiations would be a source of concern for the ECB.
An improvement in business confidence in recent survey data also argues against an easing move, even if the upturn is yet to be confirmed by output data, economists said.
"There are increasing signs that the euro zone economy is bottoming out. Sentiment indicators are pointing to a recovery in the second quarter of this year. The ECB should have learned from its mistakes in April 1999 when it continued to cut rates despite the fact that sentiment indicators already turned," said Ulla Kochwasser of Industrial Bank of Japan.
The ECB also seems to be paying more attention to strong M3 growth, which it previously said was explained by portfolio shifts without implications for price stability.
In its January monthly bulletin, the central bank seemed to strike a more cautious note about M3 growth, which reached 8.0 pct year-on-year in December, compared with its reference value of 4.5 pct.
"The ongoing building up of liquidity...will require a thorough analysis of monetary developments in the coming months in order to assess if there are signs of inflationary pressures," it said. "The reference to M3 growth made in the latest monthly bulletin seems to suggest there is a shift in the benign neglect attitude followed over the past few months," said Lorenzo Codogno of Bank of America.
A belief that US monetary easing is now at an end, rising fiscal deficits in some euro zone countries and the recent weakness of the euro may also weigh against a rate cut at this week's council meeting, economists said.
Ditmer de Vries of Rabobank said the Federal Reserve has finished its easing cycle and this may mean also that the window of opportunity for the ECB to cut is now closed.
"The ECB does not want to make the same mistake as in April 1999, when they lowered rates by 50 basis points and the Fed was hiking rates less than three months later," he said. Codogno said Duisenberg may even use the news conference after this week's meeting to signal a shift to a more hawkish line by highlighting the ECB's concerns over wages and M3.
"Expect Duisenberg to become increasingly vocal on these two points and Thursday's press conference could be a good opportunity to prepare the ground for a more hawkish stance," he said.
But many economists still see room for some more monetary easing over the first half of the year. Of the 34 economists surveyed by AFX and AFP, 22 forecast some monetary easing by end-June, with four of these predicting that rates will be cut by a total of 75 basis points. Some said the economic outlook may not be as strong as the ECB believes and rate cuts will therefore be necessary.
"Compared with the ECB's predictions published in December, we expect euro area growth and inflation to be a quarter of a percentage point lower this year on average. This means that key interest rates are likely to be lowered by 25 basis points during the next few months," said Michael Schubert of Commerzbank.
Sirpa Wallius of Nordea said that although industrial leading indicators have stabilised earlier than expected, a cyclical turnaround is not yet evident.
"Any setback in leading indicators and the expected positive inflation surprises...will give the ECB room to cut rates once more," she said.
Fels and Bartsch said the current refi minimum bid rate of 3.25 pct is too restrictive, particularly in view of expectations that inflation will slow in the months ahead. If the council does not change this restrictive stance, the recovery will be slow and hesitant and this will put too much downward pressure on prices, they said. Nico Mensink of ABN Amro also said the current refi rate will be too high once inflation slows.
"Based on the still rather high level of the real refi rate when inflation falls to 1.5 pct, the ECB still has room to cut by another 25 basis points in March," he said.
The March 7 council meeting is pinpointed by many of those who predict further easing as the most likely timing for a rate cut. Inflation should be resuming its downward course by then, and economic growth will still be subdued, they said. But opportunities for easing after that will be limited, economists said.
"Time is running out...we do not see any chance for rate cuts after April," said Wallius.