Tags: ECB | Track | July | Rate | Increase

ECB Is Still on Track for July Rate Increase on Worsening Crisis

Friday, 03 Jun 2011 12:07 AM

 

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The European Central Bank is still on track to raise interest rates in July as Greece’s worsening debt crisis clouds the economic outlook in the run-up to next week’s policy meeting, a Bloomberg survey showed.

All 51 economists forecast the ECB to keep the benchmark rate at 1.25 percent at the June 9 meeting. The Frankfurt-based central bank led by Jean-Claude Trichet may increase borrowing costs by 25 basis points in July, a separate survey showed.

“Greek tensions will have only a limited impact on the ECB’s determination to raise rates in July,” said Juergen Michels, chief euro-region economist at Citigroup in London. “The euro area as a whole is doing pretty well, therefore the ECB will have to adjust the benchmark rate. It has to position itself not least to safeguard its credibility.”

ECB council members including Italy’s Mario Draghi have signaled they see a need to raise borrowing costs further to fight price pressures even as investors become increasingly concerned that Greece may restructure its debt. European Union and International Monetary Fund officials today complete a review of Greece’s plan for 78 billion euros ($113 billion) in asset sales and austerity measures after Moody’s Investors Service earlier this week raised the probability of default.

‘Reasonably Upbeat’

The ECB, which aims to keep inflation just below 2 percent, on June 9 will release its latest economic forecasts for the 17- member euro region. In March, the central bank projected inflation to average about 2.3 percent this year and 1.7 percent in 2012 with the economy expanding 1.7 percent and 1.8 percent this year and next, respectively.

Marco Valli, chief euro-region economist at UniCredit Global Research in Milan, said he expects the ECB to raise its forecasts for both growth and inflation next week.

The ECB “will continue to sound reasonably upbeat on recovery prospects,” he said. “We would be surprised if the central bank were to miss this opportunity to pre-announce a July rate hike.”

Draghi, who will likely succeed Trichet from November, said on May 31 that monetary conditions are still “accommodating.” His remarks were echoed by Executive Board member Juergen Stark, who told Italian newspaper Il Sole 24-Ore in an interview published on June 1 that further rate increases are “under consideration” after April’s 25 basis-point move.

Bond Rollovers

At the same time, governments are struggling to contain the region’s debt crisis. Greece’s risk of default was raised to 50 percent by Moody’s and the yield difference, or spread, between 10-year German bunds and Greek securities of a similar maturity was at 1,316 basis points today.

Europe’s financial leaders need to hammer out a revised Greek package by the end of June, in time to persuade the IMF to pay out its share of the next tranche of loans and before a summit of EU leaders on June 23-24. The IMF had indicated that it would withhold its share of the June payment unless the EU comes up with a plan to close Greece’s funding gap for 2012.

Policy makers have in recent days floated the idea of bond rollovers as a pillar of any new aid package. The step would be favored by the ECB, according to two officials familiar with the situation, because it would skirt the risk of any agreement being classified as a default. Investors may be given preferred status, higher coupon payments or collateral, said two other EU officials familiar with the situation.

‘Risky Situation’

ECB council member Miguel Angel Fernandez Ordonez today called it an “error to restructure” and Vice President Vitor Constancio said yesterday that Greece has other options.

“The truth is, as Bank of France Governor Christian Noyer said last week, if we don’t resolve this crisis correctly, we could enter a horror scenario,” said Ordonez, who heads the Spanish central bank. “If there is a pillar of the market economy, it’s that debtors pay their debts.”

The ECB may have more room to keep rates on hold as a retreat in oil prices lowers inflation threats. Euro-region consumer prices increased 2.7 percent in May from a year earlier after increasing 2.8 percent in the previous month and a gauge measuring households’ assessment of price developments over the coming 12 months declined last month.

“Compared to a month ago, a rate increase could look less likely,” said Nick Kounis, chief European economist at ABN Amro Bank NV in Amsterdam. “There’s still a risky situation surrounding Greece.”

© Copyright 2014 Bloomberg News. All rights reserved.

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