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European rates: A split decision
LONDON, England -- As pressure grows for central bankers in the UK and continental Europe to begin loosening borrowing costs, next week's discussions among policymakers are unlikely to deliver a unanimous decision. The European Central Bank, often criticised for not doing enough to ease the pain of the global economic slowdown, now appears ready to match the U.S. Federal Reserve with a half a percentage point cut in interest rates. However, the Bank of England is not expected to follow suit. In fact, many economists -- as well as some officials inside the bank itself -- believe rates may have to go up, not down, if the housing market does not start to cool off soon. For the ECB, economic numbers in the past have reinforced expectations it will cut rates on Thursday. Eurozone inflation eased to 2.2 percent in November from 2.3 percent the previous month, although it is still above the ECB target ceiling of 2 percent.
At the same time, economic sentiment worsened in November as a deterioration in consumer confidence outweighed a slight improvement in industrial confidence. "All the jigsaw pieces have fitted into place for a rate cut next week,'' David Brown, chief economist at Bear Stearns, told Reuters. "It is all adding up to a picture of ill health in the eurozone economy, and the ECB has to deliver the goods to ease the pain.'' Markets are looking for a rate cut of up to half a percentage point when the ECB holds its next policy meeting on Thursday. The ECB's key lending rate has been at 3.25 percent since November 2001, following four reductions last year aimed at encouraging businesses and consumers to spend more and help ease the impact of the global economic slowdown. Signs from France and the United States that their economic recoveries may be accelerating should not deter the bank from a rate cut, analysts said. "On the whole I think the numbers haven't changed the [rate] outlook all that much,'' Klaus Baader, an economist at Lehman Brothers, told Reuters. "Though with the turnaround in sentiment, the debate [about the size of the cut] may be more intense than we had thought a couple weeks ago,'' he said, adding he saw the bank cutting by 50 basis points before hiking them again sometime next year. Business sentiment in France reversed a four-month decline in November and companies were more upbeat about the future, data from the French national statistics office INSEE showed on Thursday. Similarly, recent U.S. data have struck a more positive note, with consumer confidence rebounding in November, durable goods orders rising in October, and initial jobless claims falling to their lowest in 21 months. On a less positive note, Italian data on Thursday showed consumer prices rose at their highest rate in more than a year in November, driven by dearer fresh fruit and vegetables. But the Italian figures were not seen as crucial to the rate decision next week. Leading ECB officials, such as Vice President Lucas Papademos, have said the inflation outlook in the eurozone is improving and creating room for a monetary easing. OECD says politicians to blameThe Organisation for Economic Co-operation and Development said in a report on Thursday that Europe's economy was hamstrung by a lack of structural reforms, preventing inflation from falling even when growth was slumping. That criticism chimes with the ECB's line that the task of boosting long-term economic growth in Europe belongs firmly to politicians, who must free up the region's economy. Structural economic problems are particularly evident in Germany, Europe's largest economy, where planned tax increases by the government have drawn strong criticism from businesses and sentiment is still not improving, unlike in other countries. German consumer sentiment looks set to plunge to a six-year low in December, depressed by planned tax hikes, redundancy fears and an increasingly gloomy economic outlook, GfK Market Research said on Thursday. Leaders of two high-profile German companies -- luxury car maker BMW and chipmaker Infineon Technologies -- blasted the government's tax plans this week, with one saying firms would relocate more jobs to abroad. Despite the more positive news from the U.S., Lehman's Baader said it was too early to say if the U.S. would again be the locomotive for a global recovery and the eurozone economy would probably see a prolonged ride at below cruising speed. "As long as U.S. growth rises, of course that has a favourable influence. Yet at the same time the U.S. economy is not expected to reach potential growth next year,'' he said. "The [eurozone] picture is one of sub-potential but positive growth,'' he added, saying monetary policy, low inflation and declining oil prices would help boost sentiment. The ECB believes the eurozone economy will recover and reach its 2 to 2.5 percent trend potential output growth rate in the course of next year, though it adds that the outlook is surrounded with much uncertainty. It has openly admitted that it had discussed lowering interest rates at its November policy meeting, even though the view in the end prevailed that the benchmark rate should remain unchanged. But ECB chief economist Otmar Issing injected uncertainty about the rate outlook. He said on Wednesday in an interview that the bank was still worried about sticky inflation, which was not slowing as quickly as economic growth. BoE expected to leave rates unchangedMeanwhile, the BoE is likely to hold the line on rates when it meets next week. On Friday, there was fresh evidence that the UK's red hot market remains a threat to inflation.
The BoE said mortgage lending rose at a record pace in October, pointing to continued strength in the country's booming housing market. The bank said home loans rose by £7.9 billion in October, the biggest increase since comparable records began in April 1993. The level of mortgage lending is now 12.8 percent up on a year earlier, also the fastest rate since April 1993. Earlier this month, members of the BoE's Monetary Policy Committee held off from cutting interest rates mainly because house price inflation had topped 30 percent for the first time since the late 1980s housing boom. This week, BoE deputy governor Mervyn King -- who takes over the top post next June -- said interest rates would probably not come down any further if the global economy grew in line with the Bank of England's forecast. And the current governor, Eddie George, repeated his warning that the BoE might even have to raise borrowing costs if consumer demand did not slow as expected. But he stressed that the MPC might have to cut interest rates if the world economy took a turn for the worse. The BoE has now kept interest rates steady at a 38-year low of 4 for a year, helping fuel consumer spending and a house price boom that has shielded the economy from the worst of the slowdown. But policymakers are worried that consumer debt levels are getting out of control and held off from cutting rates earlier this month for fear of stoking borrowing and house prices any further. Asked by Parliament's Treasury Select Committee if interest rates had bottomed, King said, "If the world were to evolve as in our central view, that would probably be a reasonable view.'' But King stressed that members of the MPC went into each monthly meeting with a "completely open mind'' and that the world seldom turned out as one expected. MPC member Christopher Allsopp, appearing before the same committee, took a more pessimistic view than other members of the nine-strong committee and still felt that rates needed to be cut if the BoE were to meet its inflation remit. Allsopp and fellow MPC member Stephen Nickell both voted for an interest rate cut earlier this month when the majority decision kept interest rates steady. George said that the higher consumer spending rose, the greater the risk it would fall sharply. He said he was "not suggesting we are there but there is concern.'' "If we actually see the risks crystallise in one direction or another, we will act,'' he said. "We have not gone to sleep even though we have not changed interest rates in a year. Policymakers are also increasingly concerned that house prices, rising at an annual rate of 30 percent, are running out of control. George said that while he had no crystal ball to predict the exact outcome, he expected the rate of house price inflation to slow. UK firefighters pay demand a concernGeorge also waded into Britain's increasingly bitter firefighters' pay dispute, warning that an explosion in public sector pay could damage the economy. Britain's 50,000 firefighters staged an eight-day walkout in late November as they demand a 40 percent rise in their wages, forcing military troops to provide emergency cover. The strike ended Saturday morning but could resume next week if the pay issue isn't settled. George said giving into firefighters' demands could push up pay levels across the public sector which could become inflationary. "There will be a kind of tendency to say, 'If it's good for them [the firefighters] why are they a special case, we do just as important a job,'' he told Parliament. "You get a generalised cost-pushing inflation starting with the public sector.'' But asked about boardroom pay, George pointed out there was a limited number of highly remunerated company directors in Britain. "If I thought their behaviour was going to generate wage pressures through the economy, I would be very concerned about that,'' he said. Despite his concern on public sector pay, George said it was lucky that public spending was increasing because of the downside risks to consumer spending, the economy's main prop in recent years. He said it would be more sensible for Chancellor of the Exchequer Gordon Brown to let borrowing rise than cut spending or raise taxes and that he saw no danger of a serious black hole in the UK public finances. Reuters contributed to this report.
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