Tuesday, 11 March 2008

European Interest Rates NOT going down

"European Central Bank council member Axel Weber said he doesn't see any leeway to lower borrowing costs after oil prices jumped to a record."

"The surge in oil prices is a major concern and I don't think it leaves us any room for a loosening of our monetary policy,"" Weber, who is also president of Germany's Bundesbank, said at a press conference in Frankfurt today.

The ECB last week kept its key rate at 4 percent.

My comment:

So after all it looks like the ECB is serious about inflation. Some people think that we are going to head in a period similar to the 70's where inflation is raging but interest rates stays low thus "inflation is paying your housing loan": that's a total non-sense.
let me expand that :

1- Monetary policy maker are independent. I'm talking about Developed country i.e Europe, Australia, Canada, and U.S for example. Some other Central banks, i.e from emerging market will make and are making policy mistakes as their analysis is being pressurized by political and economical forces i.e China where inflation is raging at 9% and deposit rate is at 4% ....

2- They will allow interest rates to go higher than their limit ONLY if seen as being a short term phenomenon OTHERWISE they will act and increase interest rates especially if they see wage growth threatening price stability.

3- In the 70's monetary policy failed because they didn't understood it in full extent and were not fully independent. Now after years of study, confidence in central bankers in developed countries has been very strong and this is reflected in the long term borrowing cost rate (10 years german Bund rate for example)

4- If inflation grow rapidly through wage growth then the ECB will act as central banks did in the late 80's and 90's by aggressively increasing interest rates with the condition that the economy is re accelerating. As we know there is no wage growth if the economy enters into a recession thus allowing central banks to ease as shown in the U.S or U.K.

5- Now it seems that we are in the perfect storm: Food and Oil shock. If thess shocks don't resolve by themselves by for example slowing economies around the world, then it will certainly trigger second round effects (salary wage growth). The ECB will act otherwise as salary rises, company become uncompetitive and delocalization re accelerate...the Euro will be soaring thus pushing away from Europe any manufacturing company... the nightmare that the ECB want to avoid.

1 comment:

Kari said...

It looks like you share the same view as the OP bank economist :

"In the old days, inflation was beneficial to those with housing loans. Unfortunately, in today’s world this is no longer true.
”Previously, inflation and interest rates had nothing to do with each other. When inflation accelerated, it was compensated by higher salaries. As the interest rates did not change, it was easier to cope with the loan”, says Lindholm, crushing the hopes of debtors who have housing loans. "