3rd March 2011 by Shaun Richards
When I replied to a comment on here yesterday that asked about when I thought that the Federal Reserve and Bank of England would get around to raising interest-rates I replied as follows.
Meanwhile back to the economics… The floater is the European Central Bank as it could yet go first. The banker (sorry) is the Bank of England which will be held back in the short-term I think by the official GDP figures showing a 0.6% decline but has a building minority wanting a rise now. In the history of the MPC (1997-) they have often been heavily influenced by GDP numbers and so that may (incorrectly in my view) stay their hand until the summer.
As for the Fed. my view of Ben Bernanke’s speech is that QE3 is currently more likely than an interest-rate rise and that if his speech to Congress was any guide then I think Calculated Risks estimate is a minimum. The danger for the US is that inflation picks up like it has in the UK and it ends up in the same dilemma…
After reading the introductory notes and watching some of the Press Conference after todays ECB meeting I am left with the feeling that they have moved into potential interest-rate rising mode. Let me give you some examples of this from Mr.Trichet’s written statement and the emphasis is mine.
The information which has become available since our meeting on 3 February 2011 indicates a rise in inflation, largely reflecting higher commodity prices. The economic analysis indicates that risks to the outlook for price developments are on the upside, while the underlying pace of monetary expansion remains moderate. Recent economic data confirm that the underlying momentum of economic activity in the euro area remains positive; however, uncertainty remains elevated. The current very accommodative stance of monetary policy lends considerable support to economic activity. It is essential that the recent rise in inflation does not give rise to broad-based inflationary pressures over the medium term. Strong vigilance is warranted with a view to containing upside risks to price stability. Overall, the Governing Council remains prepared to act in a firm and timely manner to ensure that upside risks to price stability over the medium term do not materialise. The continued firm anchoring of inflation expectations is of the essence.
So some tough talk and it remains to be seen if this is translated into action. Later there was another section which to my mind will echo around the Threadneedle Street offices of the Bank of England.
It is paramount that the rise in HICP inflation does not lead to second-round effects and thereby give rise to broad-based inflationary pressures over the medium term. Inflation expectations over the medium to longer term must remain firmly anchored in line with the Governing Council’s aim of maintaining inflation rates below, but close to, 2% over the medium term.
It’s not that often that I agree with Mr.Trichet!So let’s enjoy the moment and on a more serious note he is expressing a view which is completely the opposite of the majority of his counterparts at the Bank of England….
In a verbal statement at the Press Conference Mr.Trichet went further.
an increase of interest rates in the next meeting is possible….
This would be a very significant move if it took place as unless the Bank of England moves swiftly it may well be that the ECB raises interest-rates first and with the relative inflation rates the Bank of England would be looking much less credible as an institution. Of course the ECB has actually to do it and we have seen hyperbole lead to disappointment many times, particularly in the Euro zone!
I have two main thought for you and they go as follows.
1. Imagine the impact of this on Ireland, Greece and Portugal who have been supported by lots of cheap liquidity provided by the European Central Bank. This will be much less help as the price of it rises.
2. Think of the impact of this on Europe’s banking system which has been (wrongly in my view) allowed to profit from the low-level of official interest-rates. It remains my view that the various euro zone rescues have in effect been rescues of Europe’s banks. please see my thought on what has happened in Portugal from today’s earlier update as an example of this. Is Mr. Trichet willing to challenge one of the unbroken rules of this crisis and institute a policy which does not favour the banking system?