By: Dr. Mike Campbell
As we noted yesterday, leading economies are continuing to use low interest rates as a tool to stimulate economic recovery by the provision of “cheap” money to business. On Thursday, the European Central Bank decided to keep rates on hold at 1% for the 22nd consecutive month. Whilst Eurozone at 2.4% is above its target level of 2% and is expected to exceed the target for most of this year, in historic terms, it is at a low and stable level.
However, political uncertainty in the Middle East and Africa has led to a significant rise in the cost of crude oil which is essential to the global economy as both an energy source and a raw material for a wide array of products. Oil costs will start to feed through into inflation figures unless calm returns to the oil market quickly – a remote possibility at this stage. Immediately after the ECB decision, Jean-Claude Trichet stated that the ECB was "in a posture of strong vigilance" against rising inflation. He cautioned that the rate-setting committee would need to take into account recent “price shocks” in commodity prices and be prepared to act.
Reading Between the Lines
Although Trichet stressed that the ECB rate-setting committee would not be coming into the April meeting with any preconceptions, his comments were taken to mean that rates are likely to rise next month. The markets reacted immediately on the news and the Euro made nearly a cent against the US Dollar. It is currently trading at $1.3963; its highest value for four months.
Most analysts had expected rates to remain on hold until the third quarter since inflation is modest in real terms and the over-riding priority is stimulation of the economy to boost growth and reduce unemployment. The pressures on the Bank of England to act against inflation, which is at a significantly higher level, are surely greater than those felt by ECB and UK interest rates are currently just half of those in the Eurozone.