--- by Stuart Williams ---
FRANKFURT (AFX) - The European Central Bank is expected to keep interest rates unchanged today, as the stronger euro calms its fears about inflation dangers for the time being, economists said. The ascent of the euro, coupled with growing uncertainty about world economic prospects, mean the bank will wait until September at the earliest before hiking rates, they added.
"We don't expect a rate hike until September due to the relaxed comments of ECB policy makers and the fact inflation developments look a whole lot better," said Ditmer de Vries at Rabobank. In a poll of 33 economists last week by AFX and AFP, all expected rates to remain unchanged after today's meeting in Luxembourg. Some 21 of the economists expect a hike in September or October, while three banks do not expect a hike at all this year.
ECB president Wim Duisenberg strongly hinted to the EU parliament in Strasbourg on Tuesday that the bank will leave rates unchanged this time. He said the bank is in "wait and see" mode as it weighs up the impact of conflicting downwards and upwards effects on prices in the euro zone. Duisenberg expressed concern over the recent surge in M3 money supply growth and wage settlements. On the other hand, the euro's rise has a "mitigating effect on inflation", Duisenberg said.
Economists said the stronger euro has moderating inflation effects on import prices, as costs of imported raw materials and services become cheaper for domestic companies. According to economists at UBS Warburg, the strong euro could lop 0.5 pct off euro zone inflation rates by the end of 2003, if it remains at its current value of near parity against the dollar.
They said this means inflation could be as low as 1 pct at the end of 2003, well below the ECB's stability ceiling of 2 pct. Meanwhile, as the euro's dramatic ascent softens inflationary pressures, concern mounts about the fragility of the recovery in the euro zone.
Economists said the recent falls on global stock markets could hit the euro zone economy by knocking business sentiment and limiting consumers' purchasing power. At the same time, evidence for a vigorous recovery in the euro zone remains very sketchy. Euro zone GDP rose only 0.1 pct in the first quarter year on year, but the case for a stronger performance in the next months rests solely on confidence data. "The economic recovery remains very fragile," said Marc Touati, chief economist at Natexis Banques Populaires. "The ECB has no objective reason to raise rates as this could break the upturn." Even confidence data seems to have taken a knock in June.
Germany's Ifo business climate index fell to 91.3 from 91.6, while Dutch producer confidence also came in under expectations. Consumer confidence in France fell to -13 in June from -12 in May. Philippe Weber, economist at CPR, said he believes the ECB will only start raising rates "if and when stock markets normalise somewhat, and encouraging signs of a recovery in the euro zone materialise". However, despite the uncertainty currently clouding the ECB's outlook, most economists are still betting on the bank raising rates at least once by the end of the year. Economists said the decline in June inflation to 1.7 pct, its lowest level for three years, masks the worryingly high level of core inflation, which excludes volatile energy and unprocessed food prices. Eurostat has yet to publish the level of core inflation for June, but May's level was 2.6 pct -- the highest for some six years. According to Lorenzo Codogno, economist at Bank of America, headline inflation has only dropped so sharply in the past months as the comparison period last year saw very high inflation due to the surge in food and energy prices. "The underlying inflation is still relatively high," he said. Furthermore, it also remains to be seen if the euro's inflation-moderating rise against the dollar will be sustained in the longer term. Duisenberg reiterated on Tuesday the bank is unhappy with current price developments and is also concerned by the high wage settlements struck by unions like Germany's IG Metall. Moreover, he also indicated the ECB is increasingly worried about the continued surge in M3 money supply growth, which increased to 7.8 pct in May from 7.4 pct in April. "These developments need to be closely monitored as they may point to upward risks to price stability," Duisenberg warned. The ECB had previously insisted the jump in M3 growth above its reference value of 4.5 pct is temporary and harboured no price threats. According to Michael Schubert, economist at Commerzbank, these factors mean it could be "dangerous for the ECB to wait too long". He said the ECB will move once it receives concrete confirmation from data in the next months the recovery in the euro zone is well underway. "In autumn, there will probably be so many hard facts concerning the economy that we do not expect the central bank to hesitate any longer," he said.