European Central Bank Rates Are Still `Accommodative'

European Central Bank President Jean-Claude Trichet said interest rates are still supportive of economic growth, suggesting he sees room to lift the benchmark lending rate further.

``Given the favorable economic environment, our monetary policy continues to be on the accommodative side,'' Trichet said at a press conference in Frankfurt today after the ECB raised its benchmark lending rate by a quarter point to 3.75 percent. ``I didn't say we were at a peak, full stop.''

The ECB has indicated it wants to curb inflation in the 13- nation euro region by removing ``monetary accommodation,'' taking rates to a level that no longer stimulates the economy. The euro region posted the fastest economic growth in six years in 2006, raising the risk that inflation will accelerate as companies increase prices and unions demand higher wages.

``Trichet said very clearly the ECB won't stop at 3.75 percent,'' said Eric Chaney, Morgan Stanley's London-based chief European economist.

The ECB today raised its economic growth forecasts for 2007 and 2008 to about 2.5 percent and 2.4 percent from about 2.2 percent and 2.3 percent and said inflation this year may cool to around 1.8 percent from 2 percent. It would be the first year since 1999 that inflation remained below the bank's limit of just below 2 percent.

The Bank of England today kept its benchmark interest rate at 5.25 percent, a 5 1/2-year high, as policy makers assessed whether three increases in the past six months were sufficient to bring down inflation.

Rates Now `Moderate'

Economists say the so-called neutral interest rate, the level that neither stimulates nor restrains growth, lies between 3.5 percent and 4 percent.

``The governing council will monitor very closely all developments so that risks over the medium term don't materialize,'' Trichet said. ``I said interest rates are moderate. Last time I said they were low.''

Investors raised bets on higher rates after Trichet's comments. The yield on the three-month Euribor futures contract for June rose to 4.04 percent from 4 percent while the September contract yielded 4.07 percent after 4.03 percent. The contracts settle to the three-month inter-bank offered rate for the euro, which has averaged 16 basis points more than the ECB's benchmark rate since the single currency's start in 1999.

``Another rate hike is probably only marginally better than a 50/50 shot now,'' said Charles Diebel, head of European rates strategy at Nomura International Plc in London. ``We are now in or at least very close to what they view as neutral territory.''

Inflation Outlook

A 20 percent drop in oil prices from a July record of $78.40 a barrel has helped keep inflation across the euro region below the ECB's 2 percent ceiling for six straight months. It is also bolstering an economic expansion by giving companies' and consumers more money to spend.

``Inflation rates are very much benefiting from a drop in oil prices,'' said Thorsten Polleit, chief German economist at Barclays Capital in Frankfurt, who expects the ECB to raise its main lending rate to 4 percent in June. ``The inflation outlook has worsened however.''

The bank is concerned workers' demands for wage increases will reignite inflation as companies post record sales and profits. IG Metall, Germany's biggest labor union, is demanding a 6.5 percent pay increase for as many as 3.4 million workers, defying ECB calls for wage restraint.

At the same time, M3 money supply, which the ECB uses as a gauge of future inflation, rose 9.8 percent from a year earlier in January, the fastest pace in 17 years.

Other inflation risks include a renewed increase in oil prices and booming money and credit growth, Trichet said today. M3 money supply, which the ECB uses as a gauge of future inflation, rose 9.8 percent from a year earlier in January, the bank said.

source:www.bloomberg.com