Europeans to hold rates

June 4, 2001
Web posted at: 1041 GMT

LONDON (CNN) -- The European and UK central banks will likely leave interest rates unchanged this week, ignoring the trend of some economic fundamentals.

Neil Parker, economist at the Royal Bank of Scotland, told CNN: "It's a done deal. The ECB and Bank of England will leave interest rates on hold."

The view of analysts and the markets on euro-zone rates is despite the fact that the European Central Bank, according to critics, should be reacting to the double whammy of slowing growth and higher-than-forecast inflation.

The ECB's policy committee, which meets on Thursday, cut rates by a quarter-point on May 10 to 4.5 percent, even as inflation in the 12-nation euro zone gathered pace to 2.9 percent in April.

The consumer price index in Germany, the European Union's largest economy, also rose in May to a seven-year high of 3.6 percent.

That's as Germany and France reported slowing economic growth in the first quarter. Higher or steady interest rates help damp inflation and lower rates boost economic activity, so the ECB is in a quandary, say analysts.

But ECB President Wim Duisenberg told delegates at an International Monetary Conference in Singapore on Monday that he was bullish on the inflation front.

"Although current inflation figures in the euro area are adversely affected by energy prices and food prices, the current outlook is compatible to maintenance of price stability in the medium-term," he said.

Banks capable of surprising

Despite the shock rate cut last month – only the second since the ECB was established in 1998 - Duisenberg said it was not the bank's policy to surprise the markets.

"Our policy is to be as transparent and as predictable as possible," said Duisenberg. "That's the basis, but then also as one senior colleague of mine once said, sometimes it's unavoidable to surprise markets and that could sometimes also be part of your policy," he added.

In the UK, the Bank of England meets on Wednesday when again most analysts believe that rates will remain on hold after last month's quarter-point cut to 5.25 percent.

UK rates are at their lowest level since November 1999, but remain the highest in the Group of Seven leading industrial nations.

Economic growth in the UK slowed to 2.5 percent in the first quarter compared with 2.6 percent in the fourth quarter of 2000 and business leaders are complaining rates need to come down to provide a boost.

A rate cut was also seen as unlikely on the eve of a general election. Subsequent falls in mortgage costs for voters at such a time would be viewed as controversial, coming so soon after the previous cut.

But UK rates are likely to head lower after the election as the UK feels the effects of a slowing U.S. economy and other local factors.

US investment bank Bear Stearns is one of the dissenting voices about this week's rate decisions.

"We are sticking our necks out for ECB and MPC (UK) easing, but the overwhelming market consensus expects rates to stay steady this week," Bear Stearns said in a research note.

Many analysts now expect Europe and the UK to cut rates by about a quarter-point in July.

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